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11/21/2008

China and the Global Financial Crisis

During my recent trip to China and Hong Kong, the government in Beijing announced a stupendous $586 billion (4 trillion yuan) stimulus package, or about one-sixth of current GDP. Were the United States to do the same on a percentage basis, the resulting program would exceed $2 trillion; a bit more than the last $150 billion stimulus package that Washington came out with, or anything that appears to be on the board today for early next year. 

So, as China’s role in the global financial crisis is critical, I thought I’d pass on some local opinion I gleaned from the papers during the trip. 

Editorial / The Standard (Hong Kong) 

“Cash is king. The statement may sound outrageous to some, but it is certainly a case that cannot be better exemplified than by China’s splashing four trillion yuan to stimulate consumer demand to keep its economy growing as other major countries struggle to steer clear of the financial quagmire…. 

“Instead of following the logic of his peers in the United States and Europe – where governments are focused on pumping money into bailing out troubled financial institutions – Premier Wen Jiabao has opted for a different course to contribute to the global fight by expansion means. 

“To a certain extent, Wen’s package is similar to the ‘New Deal’ deployed by the late U.S. president Franklin D. Roosevelt during the Great Depression, even though the circumstances then and now bear little resemblance. 

“Roosevelt’s initiative was a sequence of programs aimed at giving work to the unemployed, reform of business and financial practices, and recovery of the economy in the 1930s. 

“But Wen’s four-trillion yuan booster may set another example for the G20 financial summit to consider this weekend in Washington. 

“Will economic expansion be the theme in the next chapter of global efforts? It is clear in the statements of world leader that this could well be the case. Quite a number of them have publicly appealed for similar stimulus plans ahead of the summit. But what China is going to splash out between now and 2010 is hardly something that can be readily imitated by other nations without the depth of its means and resources. 

“China is only the world’s fourth biggest economy in terms of gross domestic product. As of last year, its GDP stood at US$3.28 trillion, or about 23.7 percent that of the United States, 74.9 percent of Japan’s, and 99.5 percent of Germany’s. 

“But the mainland has the world’s biggest population, some 1.32 billion people, and a vast continent waiting to be developed in the west and north. As expected, the bulk of Wen’s package will go towards construction, although his 10 initiatives are also focused on equity, rural development, social services and the environment. 

“Conventional wisdom says whenever there is a crisis, there are bound to be opportunities. But events unfolding so far during the financial tsunami show that whether there are opportunities to be explored also depends on who is in charge of policy. 

“As evident in the Lehman Brothers collapse, a missed step by financial officials in Washington can deepen a crisis even more. 

“Will the Chinese leaders be able to turn the crisis around into an opportunity for the country? It should not surprise anyone if they do – in view of what it managed to achieve during and after the Asian financial crisis of 1998. 

“At the end of the current crisis, China may just emerge as the locomotive driving world economic recovery.” 

Editorial / China Daily (Beijing) 

“The huge fiscal stimulus plan that the Chinese government has just approved is much needed at home and abroad. 

“It fully demonstrated the Chinese government’s confidence and restoration to pursue fast and sound economic growth by further tapping into the great potential of the domestic market…. 

“This timely stimulus package…will be sufficiently large to boost domestic demand and thus cushion the economy against ebbing exports. 

“As the global growth prospect becomes increasingly dimmer, enough evidence is emerging to show that China’s economy is cooling much more quickly than was initially expected. 

“The Chinese economy grew only 9 percent in the third quarter, the slowest pace in five years. That was already a warning for the country which needs to maintain about 8-percent gross domestic product growth to absorb the 10 million new urban workers who will enter the labor force every year between now and 2010. 

“But since the global financial crisis has been intensifying daily over the past two months, China’s economic slowdown has accelerated in recent weeks, giving rise to the pessimistic view that the country’s growth could fall to as low as 6 percent next year without a substantial fiscal stimulus. 

“Now, the Chinese government has taken fast and massive action to tackle the economic slump. Such positive action will help overcome growing gloominess among Chinese companies and consumers…. 

“As the world’s fourth-largest economy and a major growth engine for the world economy, China’s fast and sound growth will also give a significant boost to international efforts to address the global economic downturn. 

“It is now almost a consensus that boosting spending at home is the best way China can help avert a prolonged world recession. 

“With a deep national coffer that many cash-strapped governments can only envy, the Chinese authorities are surely well positioned to crank up public spending.” 

Tom Holland / South China Morning Post (Hong Kong) 

“It couldn’t last. As predicted, the euphoria induced by Beijing’s announcement on Sunday [11/9] of a 4 trillion yuan economic stimulus package was soon dissipated…. 

“The deterioration in sentiment was inevitable. Investors had reacted to the headline figure with little consideration either of how the money is to be spent or where it is supposed to come from. 

“But on closer examination it appeared the stimulus package was not all it was cracked up to be. For one thing, much of the infrastructure spending announced on Sunday appears little more than a rebranding of projects already budgeted under the current five-year plan. 

“That’s not too surprising. China already has lavish spending plans, with trillions of yuan earmarked for investment in roads, ports, railways, the power grid and telecommunications networks. 

“Some of that can be brought forward, but spending much more would be tricky because China’s fiscal position is not nearly as strong as official budget and public debt figures imply. 

“Officially, Beijing ran a budget surplus of 0.6 percent of gross domestic product last year. 

“But many government investment projects have been funded by directed lending from the state-owned banking sector. Those loans should be considered government liabilities. Add them to the budget and last year’s balance sinks to a deficit of around 10 percent of GDP, according to Diana Choyleva of Lombard Street Research. For comparison, the United States federal government deficit last year was about 3 percent of GDP. 

“Similarly, if you factor in the state’s hidden liabilities, China’s gross public debt is far higher than official figures indicate. According to Mark Williams at Capital Economics, it currently stands at about 65 percent of GDP and is on target to rise as high as 77 percent by 2010, far above the International Monetary Fund’s 50 percent recommended ceiling for developing economies and in line with debt-plagued European countries like France and Germany. 

“As a result, it looks very much as if Sunday’s announcement was not so much a commitment to genuine new stimulus spending, but rather a sentiment ahead of a string of grim economic data and to bolster China’s reputation for tackling the crisis ahead of this weekend’s meeting of G20 heads of government in Washington…. 

“In April last year, the IMF issued a chilling alert that financial markets were becoming dangerously complacent. Its report warned that credit was absurdly easy, leverage ludicrously high, and that hedge funds were running outrageous risks in the credit derivatives market. 

“Any shock to the system could lead to a ‘disorderly unwinding of positions’ that would be ‘amplified by the rise in leveraged investment positions, the increased use of complex derivative instruments that remain untested in more volatile market conditions, rising portfolio exposure to illiquid instruments, and the prevalence of crowded trades.’ In other words there would be a stampede for the exit with investors all trying to sell their assets into a falling market – a crash. 

“There’s not much point in having an early warning system if no one listens to the alarm bell.” 

---
 
Wall Street History will return next week.
 
Brian Trumbore



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-11/21/2008-      
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Wall Street History

11/21/2008

China and the Global Financial Crisis

During my recent trip to China and Hong Kong, the government in Beijing announced a stupendous $586 billion (4 trillion yuan) stimulus package, or about one-sixth of current GDP. Were the United States to do the same on a percentage basis, the resulting program would exceed $2 trillion; a bit more than the last $150 billion stimulus package that Washington came out with, or anything that appears to be on the board today for early next year. 

So, as China’s role in the global financial crisis is critical, I thought I’d pass on some local opinion I gleaned from the papers during the trip. 

Editorial / The Standard (Hong Kong) 

“Cash is king. The statement may sound outrageous to some, but it is certainly a case that cannot be better exemplified than by China’s splashing four trillion yuan to stimulate consumer demand to keep its economy growing as other major countries struggle to steer clear of the financial quagmire…. 

“Instead of following the logic of his peers in the United States and Europe – where governments are focused on pumping money into bailing out troubled financial institutions – Premier Wen Jiabao has opted for a different course to contribute to the global fight by expansion means. 

“To a certain extent, Wen’s package is similar to the ‘New Deal’ deployed by the late U.S. president Franklin D. Roosevelt during the Great Depression, even though the circumstances then and now bear little resemblance. 

“Roosevelt’s initiative was a sequence of programs aimed at giving work to the unemployed, reform of business and financial practices, and recovery of the economy in the 1930s. 

“But Wen’s four-trillion yuan booster may set another example for the G20 financial summit to consider this weekend in Washington. 

“Will economic expansion be the theme in the next chapter of global efforts? It is clear in the statements of world leader that this could well be the case. Quite a number of them have publicly appealed for similar stimulus plans ahead of the summit. But what China is going to splash out between now and 2010 is hardly something that can be readily imitated by other nations without the depth of its means and resources. 

“China is only the world’s fourth biggest economy in terms of gross domestic product. As of last year, its GDP stood at US$3.28 trillion, or about 23.7 percent that of the United States, 74.9 percent of Japan’s, and 99.5 percent of Germany’s. 

“But the mainland has the world’s biggest population, some 1.32 billion people, and a vast continent waiting to be developed in the west and north. As expected, the bulk of Wen’s package will go towards construction, although his 10 initiatives are also focused on equity, rural development, social services and the environment. 

“Conventional wisdom says whenever there is a crisis, there are bound to be opportunities. But events unfolding so far during the financial tsunami show that whether there are opportunities to be explored also depends on who is in charge of policy. 

“As evident in the Lehman Brothers collapse, a missed step by financial officials in Washington can deepen a crisis even more. 

“Will the Chinese leaders be able to turn the crisis around into an opportunity for the country? It should not surprise anyone if they do – in view of what it managed to achieve during and after the Asian financial crisis of 1998. 

“At the end of the current crisis, China may just emerge as the locomotive driving world economic recovery.” 

Editorial / China Daily (Beijing) 

“The huge fiscal stimulus plan that the Chinese government has just approved is much needed at home and abroad. 

“It fully demonstrated the Chinese government’s confidence and restoration to pursue fast and sound economic growth by further tapping into the great potential of the domestic market…. 

“This timely stimulus package…will be sufficiently large to boost domestic demand and thus cushion the economy against ebbing exports. 

“As the global growth prospect becomes increasingly dimmer, enough evidence is emerging to show that China’s economy is cooling much more quickly than was initially expected. 

“The Chinese economy grew only 9 percent in the third quarter, the slowest pace in five years. That was already a warning for the country which needs to maintain about 8-percent gross domestic product growth to absorb the 10 million new urban workers who will enter the labor force every year between now and 2010. 

“But since the global financial crisis has been intensifying daily over the past two months, China’s economic slowdown has accelerated in recent weeks, giving rise to the pessimistic view that the country’s growth could fall to as low as 6 percent next year without a substantial fiscal stimulus. 

“Now, the Chinese government has taken fast and massive action to tackle the economic slump. Such positive action will help overcome growing gloominess among Chinese companies and consumers…. 

“As the world’s fourth-largest economy and a major growth engine for the world economy, China’s fast and sound growth will also give a significant boost to international efforts to address the global economic downturn. 

“It is now almost a consensus that boosting spending at home is the best way China can help avert a prolonged world recession. 

“With a deep national coffer that many cash-strapped governments can only envy, the Chinese authorities are surely well positioned to crank up public spending.” 

Tom Holland / South China Morning Post (Hong Kong) 

“It couldn’t last. As predicted, the euphoria induced by Beijing’s announcement on Sunday [11/9] of a 4 trillion yuan economic stimulus package was soon dissipated…. 

“The deterioration in sentiment was inevitable. Investors had reacted to the headline figure with little consideration either of how the money is to be spent or where it is supposed to come from. 

“But on closer examination it appeared the stimulus package was not all it was cracked up to be. For one thing, much of the infrastructure spending announced on Sunday appears little more than a rebranding of projects already budgeted under the current five-year plan. 

“That’s not too surprising. China already has lavish spending plans, with trillions of yuan earmarked for investment in roads, ports, railways, the power grid and telecommunications networks. 

“Some of that can be brought forward, but spending much more would be tricky because China’s fiscal position is not nearly as strong as official budget and public debt figures imply. 

“Officially, Beijing ran a budget surplus of 0.6 percent of gross domestic product last year. 

“But many government investment projects have been funded by directed lending from the state-owned banking sector. Those loans should be considered government liabilities. Add them to the budget and last year’s balance sinks to a deficit of around 10 percent of GDP, according to Diana Choyleva of Lombard Street Research. For comparison, the United States federal government deficit last year was about 3 percent of GDP. 

“Similarly, if you factor in the state’s hidden liabilities, China’s gross public debt is far higher than official figures indicate. According to Mark Williams at Capital Economics, it currently stands at about 65 percent of GDP and is on target to rise as high as 77 percent by 2010, far above the International Monetary Fund’s 50 percent recommended ceiling for developing economies and in line with debt-plagued European countries like France and Germany. 

“As a result, it looks very much as if Sunday’s announcement was not so much a commitment to genuine new stimulus spending, but rather a sentiment ahead of a string of grim economic data and to bolster China’s reputation for tackling the crisis ahead of this weekend’s meeting of G20 heads of government in Washington…. 

“In April last year, the IMF issued a chilling alert that financial markets were becoming dangerously complacent. Its report warned that credit was absurdly easy, leverage ludicrously high, and that hedge funds were running outrageous risks in the credit derivatives market. 

“Any shock to the system could lead to a ‘disorderly unwinding of positions’ that would be ‘amplified by the rise in leveraged investment positions, the increased use of complex derivative instruments that remain untested in more volatile market conditions, rising portfolio exposure to illiquid instruments, and the prevalence of crowded trades.’ In other words there would be a stampede for the exit with investors all trying to sell their assets into a falling market – a crash. 

“There’s not much point in having an early warning system if no one listens to the alarm bell.” 

---
 
Wall Street History will return next week.
 
Brian Trumbore