This weeks’ entry is fairly miscellaneous, a consequence both of the amount and variety of news coming out of China and my own hectic schedule, which prevents me from dealing with all of these issues in a more unified way. Between lots of investor meetings and finishing up a number of writing commitments, I am preparing next week to go to New York and Washington for ten days.
As an aside, the timing of my trip was determined by an East Coast tour, centered on New York, which my music label, Maybe Mars, is arranging for some of the best Beijing musicians, including the surreal folk singer Xiao He, one of the most astonishing and creative musicians I have ever worked with. For those of my regular readers based in or near New York who may be interested in checking out the Beijing new-music scene, I strongly recommend that you keep an eye out for the shows, beginning November 5 and running through the end of the month. These guys are really good and I expect a great reaction from the New York music community.
But back to more mundane stuff. Last week’s excellent economic numbers once again reinforced everyone’s existing prejudices. I discussed why in a September 11 entry in response to similar numbers last month. Those who believe that the stimulus package has essentially resolved China’s plight and eliminated its vulnerability to export demand saw the 8.9% year-on-year GDP growth rate (at the lower end of a narrow range of expectations) as proof that Chinese growth has solidly recovered. Andy Rothman at CLSA in a research report released the following day had this interpretation:
Other than GDP coming in just under 9%, no surprises, and we agree with the NBS spokesman, who this morning said ‘the overall situation of the national economy was good.’ We maintain our forecast of about 8% GDP growth for this year, and 8-9% for 2010 (closer to 9% if you expect a US/EU recovery to generate a bit of a net exports boost for China).
He then went on to say something that puzzled me:
The fact that China’s GDP grew by 7.7% in the first nine months of the year while exports were still extremely weak (the trade surplus was US$ 135.5bn, down by US$ 45.5bn YoY) illustrates that the mainland economy is not export-led. Net exports delivered a -47% contribution to GDP growth in the first three quarters, while final consumption accounted for 52% of growth and investment 95%.
I think almost by definition if the decline in exports had such a terrible impact on the growth rate, China must be heavily export dependent, and it was only the impact of a massive stimulus that permitted such high growth rates – in fact the IMF actually claims that 60% of Chinese growth in the past decade was explained by exports and investment in the tradable goods sector. China, it seems to me, is heavily export dependent, and it is only the massive, and temporary, impact of the stimulus that keeps growth up.
Infrastructure spending
Although Rothman is considered to be one of the most bullish analysts on China’s medium-term prospects, he hasn’t come close to expressing the cheerleading sentiments of Fareed Zakaria, who seems to have very little doubt or worry about China’s economic trajectory. In an article in two weeks ago in Newsweek he wrote:
The great surprise of 2009 has been the resilience of the big emerging markets—India, China, Indonesia—whose economies have stayed vibrant. But one country has not just survived but thrived: China. The Chinese economy will grow at 8.5 percent this year, exports have rebounded to where they were in early 2008, foreign-exchange reserves have hit an all-time high of $2.3 trillion, and Beijing’s stimulus package has launched the next great phase of infrastructure building in the country.
Much of this has been driven by remarkably effective government policies. Charles Kaye, CEO of the global private-equity firm Warburg Pincus, lived in Hong Kong for years. After his last trip to China a few months ago he said to me, “All other governments have responded to this crisis defensively, protecting their weak spots. China has used it to move aggressively forward.” It is fair to say that the winner of the global economic crisis is Beijing.
I am not sure China hasn’t done the same thing – protecting its own weak spots – since both the Chinese stimulus and the US stimulus essentially went to exacerbating the sources of each country’s domestic balance, US excess consumption and Chinese excess investment, but at any rate there is a 500-year or longer tradition in the West that when we write about China we are really using a mythical China to write about our own societies. I think Zakaria’s article may be an example. He goes on to say:
And look at the nature of China’s stimulus. Most of U.S. government spending is directed at consumption—in the form of subsidies, wages, health benefits, etc. The bulk of China’s stimulus is going toward investment for future growth: infrastructure and new technologies. Having built 21st-century infrastructure for its first-tier cities in the last decade, Beijing will now build similar facilities for the second tier.
China will spend $200 billion on railways in the next two years, much of it for high-speed rail. The Beijing-Shanghai line will cut travel times between those two cities from 10 hours to four. The United States, by contrast, has designated less than $20 billion, to be spread out over more than a dozen projects, thus guaranteeing their failure. It’s not just rail, of course. China will add 44,000 miles of new roads and 100 new airports in the next decade. And then there is shipping, where China has become the global leader. Two out of the world’s three largest ports are Shanghai and Hong Kong.
Although Zakaria’s main point may be to insist that the US is failing sufficiently to upgrade its infrastructure (a point with which I and many other people would heartily agree), the idea that therefore, and in contrast, China’s infrastructure spending is a good idea may be very mistaken. I think China probably already has the best infrastructure in the world for its level of development, and it is not clear that spending a fortune upgrading it makes economic sense, unless you assume that every country at any low level of development has a near-infinite capacity to upgrade infrastructure. In that light, there is an interesting article in today’s South China Morning Post on this very subject.
China’s high-speed rail network will overtake Europe as the world’s biggest by 2012, posing a threat to the country’s troubled airline industry.
The cheaper tickets and often quicker journeys to be offered by high-speed trains are expected to substantially cut the market share of domestic carriers that already face bruising competition from airline rivals. Although still in its infancy, the mainland’s high-speed rail system will account for most of the world’s fast tracks by 2020 as Beijing accelerates a mammoth transport infrastructure programme.
Faster, faster, faster
It is easy to get excited by this building program, but are those high-speed rails, which may be fast, exciting and fun to ride, economically justified? Even if they were justified in the US or Europe, where the economic value of every hour saved is many times the value in China, they are probably not justified in China. After all an American might gladly pay $100 a month to cut his daily commuting time by one hour, but for most households in Beijing or Shanghai this would be the equivalent of paying one-third to one-fifth of their income – probably not worth it. And note that I am not even mentioning one of the sub-stories in this article – that China’s airline industry may be seriously hurt by the high-speed rails even as China is splurging on a massive airport investment program.
So does it matter if we waste a little money? Of course it does. Remember that if the total economic benefits are less than the cost of the investment, we can’t simply assume away the difference. We need to figure out who will pay, and it shouldn’t come as a huge surprise if Chinese households ultimately pay for this waste, as they always have, through all the “normal” channels – sluggish wage growth, very low returns on their savings, indirect taxes on income and consumption, and so on. If they do pay, not only will this make it very hard for them to sustain the consumption splurge that we are all demanding of them, but it represents a transfer of resources from those that must pay for the railway to those that most often use it – all Chinese must pay for benefits that accrue mostly to the wealthier segments of China’s wealthiest cities.
This is a large part why many analysts are not impressed by China’s investment-driven growth. Not only is much of it explicitly aimed at increasing production, much of the rest of it is implicitly likely to reduce consumption. Those of us with a pessimistic outlook of course read last week’s data release differently than do those who see the numbers as evidence that the stimulus is “working”. For example in my last two posts I discuss the risks of inventory build-up, and the increasing sense I am getting that a lot of what I expected to show up as inventory build-up may be happening outside corporate balance sheets. In that light reader Pangea Joel left a comment on my last post that alerted me to this very interesting and very apposite article on Bloomberg:
Private investors in China, the world’s largest metals user, have stockpiled “substantial” quantities of copper as the government ramps up stimulus spending to spur the economy, according to Sucden Financial Ltd. Pig farmers and other speculators may have amassed more than 50,000 metric tons, Jeremy Goldwyn, who oversees business development in Asia for London-based Sucden, wrote in an e- mailed report after a visit to China. That’s about half the level of inventories tallied by the Shanghai Futures Exchange, which stood last week at a two-year high of 97,396 tons.
Sucden’s estimate underscores the difficulty analysts face in gauging metals demand in China amid increased speculation by retail investors, whose holdings remain outside the reporting framework undertaken by exchanges. Private investors in China also had as much as 20,000 tons of nickel, Goldwyn wrote. “People who have nothing at all to do with the copper trade have been buying copper as a store of value, much like they would with gold,” said Jiang Mingjun, an analyst at Shanghai Oriental Futures Co.
…“Private stockpiles, built by many including the much- vaunted, pig-farming speculators, have clearly absorbed substantial quantities of metal,” Sucden’s Goldwyn said. “Much of this metal will remain out of the normal market place.” Scotia Capital Inc. analyst Liu Na highlighted the role of Chinese pig farmers and other private speculators in the metals markets in an Aug. 17 note that cited reports from state-owned China Central Television. These speculators may become “quick sellers” if sentiment turned, Liu said in that note.
To be sure, Sucden’s Goldwyn wrote that the stockpiles of copper and nickel held by farmers and others in China may “not be ‘dumped’ back in the foreseeable future as some have recently suggested, wherever prices go.” Goldwyn didn’t give a reason. The metals holdings by pig-farmer investors and other private speculators give “the impression that there is strong demand in China,” said Jiang at Shanghai Oriental. “But it is actually those who take a pessimistic view of the economy and are looking to preserve their wealth who are buying.”
Caution at the banks
This is something that we are all going to have to keep an eye on – an awful lot of investment has become inventory accumulation and speculative stock-piling, and this automatically increase volatility since in any downturn de-stocking exacerbates the slowdown. Meanwhile it is not as if analysts inside China are as bubbly as those outside China. Last week one of China’s most senior bankers gave pretty strong warnings about the impact of excessive credit expansion. According to an article in last week’s Financial Times:
China needs an “urgent” tightening of monetary policy to prevent the huge stimulus measures introduced this year from inflating stock and property bubbles, one of the country’s leading bankers has warned. Qin Xiao – chairman of China Merchants Bank, the country’s sixth-biggest – says in Thursday’s Financial Times that the government should not be afraid of a “moderate slowdown” in the economy.
“Monetary policy must not neglect asset-price movements,” he writes. “Therefore it is urgent that China shifts from a loose monetary policy stance to a neutral one.” Mr Qin’s unusually frank warning comes ahead of the publication on Thursday of third-quarter gross domestic product figures that are expected to underline the rapid recovery in China’s economy, with analysts forecasting growth of nearly 9 per cent compared to last year.
This was followed by a statement by Liu Mingkang, chairman of the China Banking Regulatory Commission. Here is Bloomberg’s take on a statement he delivered last week on the CBRC’s website:
China urged its banks to lend “reasonably” this quarter, after a surge in credit increased risks in the nation’s banking system. The China Banking Regulatory Commission will closely monitor the impact of global capital flows and domestic policy adjustments on liquidity in the banking system, Chairman Liu Mingkang said in a statement on the regulator’s Web site today. The CBRC will ensure that “ample liquidity is always maintained,” he said.
…Commercial lenders’ bad-loan ratio dropped by 0.76 percentage point from end of last year to 1.66 percent as of Sept. 30, as non-performing loans declined by 55.8 billion yuan to 504.5 billion yuan, Liu said today. The decline masks growing risks in banks’ loan books, he said. “Behind the ‘double-dip’ in non-performing loan data, credit risks under the rapid lending growth are accumulating,” Liu told a CBRC meeting in Beijing. The risks “need high attention and should be effectively dissolved.”
While I am on the subject, on Saturday I was discussing with Logan Wright, who co-teaches the PBoC Shadow Committee seminar I run at Peking University, the loan numbers for September. Net new lending last month was RMB 517 billion, which when corrected for the RMB 352 billion reduction in discounted bills and a RMB 211 billion increase in short-term loans represented a very strong increase of medium- and long-term lending of RMB 657 billion.
Logan told me that of the new lending number, the Big Four banks and the largest national banks only accounted for around RMB 125 billion (RMB 110 billion and RMB 15 billion respectively). They also accounted for most of the run-off in discounted bills.
This means that most of the new lending, especially the net increase in risk, took place elsewhere. Where? Mostly, it seems, in the smaller city banks and cooperatives. Since these are the banks most directly under the control of the city and local governments, it seems that these are at the forefront of the fiscal and credit expansion – in line with some of the other stories I have been relaying about the difficulty local governments have been having in financing their share of the fiscal expansion.
College blues
I am just guessing, of course, but I wonder if in the next few years as the growth benefits of the fiscal stimulus package wears out we might not see a rapid consolidation in the banking industry as the healthier (less sickly?) large banks are “encouraged” to absorb the smaller banks, struggling with the legacies of the loan boom. I think there is already some sense of that process occurring among the leadership, although in general I don’t get the impression that anyone in a senior position has a clear sense of what China’s exit strategy is likely to be. In fact the impression I get is that leaders are basically responding to day-to-day changes without any clear sense of what is likely to happen next. That is not necessarily a bad thing, of course, but I suggest that foreign analysts who speak feverishly of a great master plan to protect China from the consequences of the crisis may be a little overexcited.
Thee final points. First, there was an interesting article last week in Asia Times on rising graduate unemployment which, as regular readers know, was a problem even before the crisis hit and which is becoming more serious:
An explosive report released by the Chinese Academy of Social Sciences (CASS) in September said earnings of graduates were now at par and even lower than those of migrant laborers. The news came as a blow to many high-aspiring parents and youngsters in a country that has for centuries prided itself on cultivating elite Confucian intelligentsia.
“What is the point of putting so much effort and time into getting a university degree if at the end all you get is the salary of a migrant worker?” said Wang Lefu, who studied business management. “One needn’t have bothered with exams and all the bureaucracy.”
…For China the global economic crisis has exacerbated a serious unemployment crisis that has been many years in the making and that few believe will disappear with the first signs of global recovery. China’s official unemployment rate stands at about 4%. Yet a large group of laborers – the communist state’s 150 million migrant laborers or floating population, as they are sometimes termed here – is not taken into account when unemployment figures are calculated.
When the global financial crisis hit last year – diminishing trade flows and reducing manufacturing orders for China’s factories to a dribble – some 20 million migrants were estimated to have lost their jobs and returned home. The pressure of resolving unemployment tension in the countryside this year has been made even more difficult for Beijing by its difficulties in finding jobs for the country’s surging numbers of university graduates.
Some 6.1 million graduates entered the job market this summer, 540,000 more than last year. In 2008 the employment rate for graduates was less than 70%. This year nearly two million of graduates, many of them postgraduate diploma holders, are expected to be left without job placements.
University education is one of the most widely-accepted, and only, forms of upward social mobility in China, so it is a worrying thing that the benefits of college education are seriously undermined.
Second, currency intervention is back in the news, but this time among Asian countries worried about intra-regional currency fluctuations. Although the biggest story is the decline in trade deficits and the impact that must have on the aggregate of trade surpluses, an almost-equally important story must be the maneuvering among trade surplus countries to increase or protect their share of the trade deficits. This maneuvering necessarily includes rival currency-management strategies. Here is the Financial Times on the subject:
China, Japan and other east Asian countries must have “serious” talks on currency co-operation to prevent a recurrence of violent fluctuations that have raised trade tensions in the region, said the president of the Asian Development Bank on Sunday. Haruhiko Kuroda said currency movements threatened the growth of trade between Asian countries, widely regarded as a key way of reducing the region’s reliance on exports to the US and Europe.
…The yen has strengthened to near-record levels against the US dollar since the beginning of the global financial crisis. Many other Asian currencies initially depreciated against the dollar and yen but later strengthened against the weakening dollar and the renminbi. Traders say Thailand, Malaysia and Singapore are among east Asian countries that have intervened in currency markets recently to try to slow the appreciation of their currencies.
And third, I spend a lot of time talking to large hedge funds and institutional investors – with at least three or four one-on-one meetings a week – on China and market conditions. It worries me that recently I have heard investors say many times, generally very sophisticated investors, that we are clearly in a bubble and the best strategy is to ride it out as long as we can. This has almost become one of the mantras of sophisticated investors – the less sophisticated, I guess, assuming that the crisis is safely behind us.
It worries me because of course we can’t all collectively ride the bubble and bail out before everyone else does. I wonder if this means that an awful lot of the big funds can be expected to rush to the doors at the same time when things turn bleak. If so, of course, that means we are likely to see both the upside and the downside market risks increase. Several of my fund management friends have insisted the problem has to do with the nature of hedge fund compensation. Most of the hedge funds were hurt pretty badly in the financial crisis, but a very large number of them were very pleasantly surprised by how quickly they’ve been able to make back a substantial share of their losses.
This means that recovering the high-water mark, which many thought would take years, has suddenly become a lot easier, and many expect that if the markets go on as they have been doing for another year or so they’ll be back in business (that is, able to charge performance fees once again). This may create a natural, albeit dangerous, incentive to take big risks on the likelihood of a rapid recovery.
With regard to your point about the smaller banks and credit co-ops picking up the ball on new lending, you might find this article from Caijing interesting: http://english.caijing.com.cn/2009-10-21/110288100.html
Also i was wondering whether you had a view as to how robust the NPL assesment really is in Chinese banks – is it remotely comparable to those of other large economies?
Can we get the interview with the FAZ („Wetten auf Chinas Exportwirtschaft sind riskant“)in English – or had it been given in German?
Sincerely
Till
Michael,
Your analysis of currency and international trade patterns have always been fascinating. Even if I struggle to accept all of their conclusions at times, your well-reasoned arguments are certainly enlightening.
On the other hand, your analysis of Chinese domestic investment (specifically infrastructure construction) seems very haphazard… a lot of hand-wavy statements without rigorous discussion. In this article, for example, you quickly jump to the conclusion that reducing travel times from Beijing to Shanghai from 10 to 4 hours is “inefficient” without much evidence one way or the other. My reading is that your fundamental dogma is that China’s development level is low, and therefore this infrastructure development is unnecessary.
The Chinese argument, which I’ve heard time and time again, is that infrastructure construction is a necessary condition of further development… not the byproduct of existing development. That’s not to say infrastructure construction is in and of itself “sufficient” for development… if you plopped a few thousand km of high speed rail in sub-Saharan Africa, there’s little reason to think economic development would improve.
But in China’s case, I do buy the argument that there is tremendous opportunity behind infrastructure improvement. There are many possible scenarios where this improvement will materialize itself, beyond “reducing commute times”.
For starters, I’d propose that it will make labor migration much easier. The vast, vast majority of Chinese, even in front-line urban cities, still live/work in the city or province of their birth. (The only exception that comes to mind is probably Shenzhen.) Make high-speed rail more convenient, reduce the cost of travel, and you’ll make it much more likely that an engineer from Zhejiang will look nationally for a job… rather than only their home-town and/or their college towns.
I’d also argue that these new “super-city” unions (Beijing/Tianjin, Shanghai/Nanjing) will boost suburban development. High-speed rail means urbanites will have the option to move into suburban communities while still commuting to work.
Again, I don’t pretend that this is a comprehensive overview of the issue, and I’m sure you could provide a much better treatment of the issue. Here’s hoping that you tackle the matter more seriously.
Michael, one thing one of your graduate students might want to do is look at how much turnover correlates to market cap in the CSI 300 over time and how that in turn can be a good instrumental variable to predict increases in volatility – it generally is a good indicator of bubble behavior (ie, people saying “there’s no value here I’ll just buy the index and go with the flow”). Its seldom a good sign and last I checked it had picked up again markedly which makes the idea that you can get out a little less plausible. Needless to saying having caught the bounce I have been lightening up. This stuff plus Copenhagen in December does not bode well for the blue sky crowd.
If we look at the dismal PPI numbers and nominal GDP growth (nominal income flows will eventually repay the nominal leveraging up of the Chinese economy), the bullish sentiment appears to be misplaced to me. Money is not very moving very much, despite the strong real growth figures. Slow credit and output growth, and the loop of cash/liquidity circulating in the economy slows down some more during 2010 under some reasonable assumptions. On the private income front, the idea that wages are sticky downward does not seem to apply to China, and it also appears to be the case that emplyment demand is not bouncing back nearly enough with the growth rebound. Private income has to take a hit at some point, and this would not appear to be beneficial for structural changes. In short, the stimulus has stimulated, and this is well and good. But what comes next? In a credible way?
CCT, here is Patrick Chovanec’s ruminations on the topic of investment. It is true that my criticism of China’s infrastructure investment is fuzzy, but that is simply because we will only be able to judge it in retrospect. My main purpose is to suggest that given the place from which China has started (highest investment rate probably in recorded history, the world’s best infrastructure for its level of development, a history of waste and misallocated capital on a very large scale), it is in my opinion unreasonable to assume that the massive recent increase in infrastructure investment, contracting 20 years of plans into five years of spending, as Chovanec mentions, coupled with a very clear indication that risks will be socialized and discipline relaxed, will result in economically useful and viable investment. It is far safer to assume that much of this will be wasted and so will act as a drag on future consumption.
Of course I can’t prove it, just as no one can prove otherwise, and we will only know in a few years, but my instinct makes me very skeptical. Anyway see Patrick’s excellent musings below.
China’s Economy: All GDP Is Not Created Equal
Patrick Chovanec
Last week was full of good news for the Chinese economy, at least according to official statistics. On Thursday, the government reported that China’s GDP grew at an annualized rate of 8.9% in the 3rd Quarter, putting it on track to top the “magic” 8% figure for the year as a whole. Another report, that same day, said that industrial production had expanded 13.9% in September, compared to the year before, while retail sales had grown 15.5% — both on an upward track from previous months. Profits at State-Owned Enterprises (SOEs) jumped 13% in September from a year earlier, the first increase in 13 months. Prominent articles in the New York Times and Wall Street Journaltrumpeted the strength of China’s recovery.
So am I convinced? Not entirely. I’m not really a pessimist by nature, and I’d be only too happy to learn that things are looking up. But my main concern lies in a concept I’d like to introduce called “quality of GDP.”
If you Google the phrase “quality of GDP” on the Internet, you’ll find a variety of articles relating to the reliability of the way GDP statistics are gathered in different countries. Several insightful commentators have raised concerns in recent months about how reliable and accurate China’s official GDP numbers actually are, but that’s not the argument I’m making here. My concern is how even true-blue GDP figures can sometimes paint a misleading picture of the real health of an economy.
When smart analysts look at companies, they don’t just look at the announced profit figure and accept it at face value. Even if they have no reason to doubt the accounting, they try to apply a concept called “quality of earnings” to get a better sense of how the company is really doing.
Frequently, reported earnings include gains or losses on one-time events like the sale of business unit or a change in accounting methods. Other times, the value of a company’s foreign-denominated assets may rise or fall with a temporary fluctuation in exchange rates.
These factors may obscure the company’s underlying performance, and give a misleading impression of how it may continue to perform in the future. In some instances, a company may even adopt policies – such as special rebates on durables goods — that boost revenue today at the cost of future sales. A good analyst will figure out how to separate the wheat from the chaff, and produce an adjusted earnings figure that better captures how the business is performing on an ongoing basis. There’s no tried-and-true method, however; for arriving at the right answer; it’s all a question of applying experience and judgment to evaluate what’s really going on.
Back in March, I was asked on Chinese TV whether I thought China could achieve its target of 8% GDP growth for 2008. I said I didn’t see any reason why it couldn’t. All the government had to do was take all the laid off migrant workers and hire them to dig a hole in the ground one day and fill it up the next. Since the total would be added to National Income, the government could simply pay them enough to hit whatever GDP target it had in mind. The more important question, I said, is whether China is preparing itself for the next phase of economic growth. Focusing exclusively on GDP, as a number, is a distraction.
The example I gave may have been a little bit extreme, but it gets at an interesting and important point. GDP tells you how much the economy is producing; it doesn’t tell you whether that production is actually creating real value or not. In a free market, where people are making voluntary exchanges based on supply and demand, presumably it is, otherwise they would behave differently (unless, of course, there are major externalities that market prices aren’t taking into account, see Stiglitz, below). But when the State is either directing economic activity without regard to prices, or when it is artificially influencing the conditions of supply and demand in a way that distorts prices, the conclusion doesn’t necessarily follow. Production may actually consume more value than it creates, destroying wealth, or divert resources from more productive pursuits, yet in the short term, still count positively towards GDP.
This notion actually struck me back in high school, when we were studying Keynes. We learned, as every economics student does, that GDP = Consumption (C) + Investment (I) + Government Spending (G) + Net Exports. Keynes noted that, in times of economic recession, the government could spend, and if it taxed or borrowed from people with a higher propensity to save than consume, the increase in G would outweigh the decrease in C.
But what, I asked, if the government simply went out and bought 10 trillion paper clips that nobody needed at $10 a piece? The funds would have to come from people who otherwise would have bought products they actually wanted and/or saved to invest in businesses that produce goods that meet real needs. True, the increase in G might exceed the decrease in C, raising GDP. In fact, the more the government paid for each paper clip, the better. But we’d all be left with a ton of useful paper clips instead of the things we really wanted to improve our lives. GDP would rise, but our quality of life would fall.
The same reasoning can be applied to a war economy that produces tanks, planes, and ships that blow each other up. U.S. GDP surged during World War II, but don’t kid yourself: real wealth was being destroyed and/or supplanted.
Nobel Prize-winning economist Joseph Stiglitz recently published an article called “GDP Fetishism” which also discussed the shortcomings of GDP, although he approaches the issue from the opposite point of view that I do. Stiglitz emphasizes that in cases like environmental pollution, where the true costs are not reflected by the market, GDP understates the benefits of government action.
Curbing production, he argues, in pursuit of some less tangible benefit (like cleaner air, or greater social equality) might actually improve quality of life. What I’m more concerned about — particularly in regards to China — is something Stiglitz mentions only in passing, the fact that GDP may overstate the real benefit of government spending or policies designed to artificially stimulate economic growth.
The “resilience” of the Chinese economy right now is based, at least in part, on several factors that I find cause for concern:
* acceleration of a 20-year pipeline of infrastructure projects into a 5-year time horizon, including many seemingly redundant projects or vanity projects, or ones where the returns are far from clear (such as the construction of entirely new cities to replace perfectly good old ones);
* reconstruction in the aftermath of the Sichuan earthquake (which needs to be done, but is actually the replacement of destroyed value, not — as growth figures imply — a form of genuine economic expansion; otherwise you could tear down the whole country just to rebuilt it and call it “growth”);
* construction of large-scale luxury condo developments that go entirely unoccupied and serve merely as investment vehicles, on the expectation of future appreciation;
* easy state-provided credit that has kept businesses — many of them poorly run and financed — from exiting sectors (such as steel) that have chronic excess capacity;
* misdirection of business loans into stock market and real estate speculation, fueling bubbles in both markets
* direct investment by government ministries in order to speculate in — and thereby prop up – the real estate market, on the misconception that a rising real estate market is a “driver” of growth (rather than a result of real demand for more and better usable space driven by business expansion and rising living standards);
* the possibility of “channel stuffing,” where wholesalers and retailers are forced to build up unsold inventories to keep factories (particularly state-owned factories) running. Ironically, this shows up in China’s official statistics as “retail sales” because in China, retail sales are counted when the manufacturer ships, not when the products is sold to a consumer.
I’m not saying everything about the Chinese economy is bad, although it might sound like that. There’s actually plenty that’s good.
My main concern is that by pretending everything is wonderful, and brushing the real problems under the rug, China is missing a critical opportunity. Unlike India, which is struggling to revitalize its infrastructure, China already has the whole “building for the future” thing down pat. Bigger airports, taller skyscrapers, and more highways might be good, but they’re not the challenge China faces.
Developing a vibrant service sector, improving quality and safety in manufacturing, building recognized and well-respected brands, developing more efficient and transparent capital markets, providing a social safety net that lubricates labor markets and liberates savings, moving towards full convertibility of the Renminbi, learning how to manage and grow businesses in political and social environments beyond China’s borders — these are the challenges China must master to take its economy to the next level. But I don’t see anything in the “8% growth” story that is moving China in that direction. It’s more (a lot more) of the same, and more of the same just won’t do. Count me as someone who still needs to be convinced on the “quality” of China’s current GDP figures.
The point here isn’t to pick apart China. It would be silly to say that all construction or infrastructure development in China is wasteful; it’s not. And the same (or similar) criticisms could just as easily apply to the U.S., Europe, or any other country. The real point is that — whatever economy we’re talking about — all GDP is not created equal, and we need to be asking deeper questions about whether an economy is creating wealth, not just maximizing output. To speak of “quality of earnings” (for a company) or “quality of GDP” (for an economy) is simply a reminder that numbers never speak for themselves. We need to understand the reality behind the numbers.
http://seekingalpha.com/article/168796-china-s-economy-all-gdp-is-not-created-equal
Richard, I have met many people, Chinese and foreign, involved in the credit process of large Chinese banks who have also had experience with large foreign banks. Every single one of them without exception has told me that the treatment of NPLs here is very lax and is likely significantly to underestimate NPLs. This is a pretty widely held belief, so I think it pays to be very skeptical abotu the quality of the NPL data.
Til, I think this is the link. It is only in German.
http://www.fazfinance.net/Aktuell/Wirtschaft-und-Konjunktur/Wetten-auf-Chinas-Exportwirtschaft-sind-riskant-5640.html
I think the question for high speed rail is whether this is an appropriate investment for China at this point in its development.
The country has severe rail capacity problems (try to get a passenger ticket more than 5 days in advance of travel). HSR systems require their own tracks. Why not add more conventional rail and rolling stock? Conventional assets also have the flexibility of being able to move freight as well as people. Doesn’t that have a higher social return than the high speed investment? However, it’s not sexy, not state of the art. What government official wants to cut a ribbon on a covered hopper car when they could drink champagne on a maglev?
You can ride the HSR from Beijing to Tianjin for less tha $5 US, a fee which doesn’t come close to covering capital costs and yet, is still too expensive for the 70% of the population that is not rich or middle class.
Jane Jacobs came to mind as I consider China – her opus “Cities and the Wealth of Nations”. This is a triumph of clear pragmatic powerful and naive thinking ability to cut to the essence of economic puzzles. She was pointing out in the 80s, at the height of “theory Z” blather, that Japan was suffering horrendous “transactions of decline” as the managed yen was not allowing internal adjustments necessary to maintain growth. She also applied the same logic to USSR. In both cases, despite few if any economists sharing her views (almost all economists choose to ignore her as she is an autodidact), her prediction of demise of both countries in terms of how they were managing their economy was spot on.
I wonder what Jacobs would make of China now? Again a managed currency which cloaks any adverse developments internally, opaque data, and a lack of markets to provide the Hayek like feedback to indicate possible problems. I think she would come to the same conclusion as to China’s fate as she had to USSR and Japan. Jacobs was scathing – usually implicitly – on mercantilism.
(By the way – and not to show my own ego as I do not think I am part of the crowd – this blog is like Gibbon’s Decline and Fall: the main body of work is terrific but the fun is in the footnotes (in this case the comments). Very interesting dynamic of those who drop by and comment at this blogsite.)
Wow, Mr Pettis, you weren’t kidding about the varied points part.
Just some thoughts about some points you made:
1) Speculators , pig farmers or not tend to move in a mob like fashion and that is why volatility is always multiplied whjen they are in the game – it’s interesting though what they think their exit strategy is – what are they going to do with those stockpiles when the tide turns ?
2) Interesting, maybe even ironic that a China Merchants guy should be saying that – weren’t they the final recapitalisation project completed in the year? The word foreboding comes to mind – then again, if they sre as competent at loan syndication as they think they are … the world is in for a nasty shock in the not too distant future.
3) Overcapacity is a problem but is there a realistic alternative? What else could they really do with the “stimulus package” that isn’t going to strike the public as wasteful? Frankly, not really a fan of the idea that China has sufficient infrastructure or that of a high standard -it’s more of where that infrastructure is clustered that is the problem . Of course channelling that money into education, healthcare and agriculture/the environment would be sensible but would nebver quite produce the stimulus effect required . As for the unemployment situation , it’s a sad fact but because of rhe sheer population size and the drive towards higher education that situation is one many countries are or will be facing along with China – what politicians are often unwilling to admit openly is that the present economy means a large less educated workforce is pushed into the base of the pyramid with the more educated pushed into the narrower apex and at some point the 2 levels will compress with some of the apex squeezed into the latter or into no man’s land. Remember hearing a discussion of this topic on the radio whilst stuck in traffic in a chinese city – they were discussing the phenomenon of greater numbers of chinese students doing postgrad studies to avoid entering the job market and how a masters grad knelt and begged a potential employer to employ him.
4) The asset bubbles have been appearing everywhere – courtesy of the “stimulus” packages and apparently this is the quick answer our governments have to the question of how to clear the mess of the credit crisis – beggars belief ! It’s a bit like watching a poker game where no one has a winning hand but no one wants to fold ‘cos everyone hopes to ride on momentum and bluff to win the pool.Wonder how many hedge fund managers are putting their short strategies in place – just in case the unthinkable “w” appears in that bathroom mirror brought to you by the financial authorities that be. Was feeling like an outdated grizzly till that FT article …
Have a great fortnight Mr Pettis!
On the subject of NPLs, Calculated Risk has a post up with a chart of the Freddie Mac single family delinquency rate since January 2005. The nadir was March-May 2007, even as subprime was blowing up. You can see how things went from there.
http://www.calculatedriskblog.com/2009/10/freddie-mac-delinquency-rate-rises-to.html
NPLs provided no clue as to how bad the lending was at the time.
Having a low number of NPLs may just mean the bubble in lending is still growing.
In regards to bubble expectations, Jeremy Grantham, a pretty conservative value investor, has a new letter out where he sees bubbles building but feels he should chase them for a while:
“…I believe we are well on the way to my emerging emerging bubble … For once in my miserable life, I would like to participate in a bubble if only for a little piece of it instead of getting out two years too soon. Riding a bubble up is a guilty pleasure totally denied to value managers who typically pay a high price to the God of Investment Discipline (Thor?) for being so painfully early. I think the first 15 percentage points over fair value would satisfy me. If I’m right, the first 15% will be a small fraction of the eventual bubble premium.”
http://www.gmo.com/websitecontent/JGLetter_ALL_3Q09.pdf
Not only does everyone seem to believe in the bubble, even very conservative people think they can master the timing… pretty bizarre.
CCT
Here’s another take on the quality of Chinese investment. Pivot Capital wrote a piece on China last summer and I wish I could post the chart. Using IMF data they essentially compared how much incremental GDP growth a country experiences per unit of investment. In Germany (1951-60), Japan (1961-70), Korea (1981-90), China (1981-90 & 1991-00)the requirement was $3 of investment for an incremental $ of output, less/plus. China(2001-08)approached $4 of investment for each incremental unit of GDP. Their estimate for 2009 approached $7 of investment per incremental unit of GDP. Essential, the marginal return on investment in China is declining rapidly and it seems doubtful that it is because they have exhausted all the opportunities. It is because it is being directed in haste to the wrong opportunities.
Dear Michael Pettis,
Can you please explain what’s the deal with those pig farmers? You gotta. Please! Please! Please! I am utterly unclued about the seemingly preeminent role of Chinese pig farmers in internal commodity markets. Why pig farmers? Why not … chicken farmers?
Please, do kindly enlighten us. Many thanks in advance
Michael,
The key underlying assertion I’d challenge is your statement that there is “a history of waste and misallocated capital on a very large scale”.
There’s an awful lot of anecdotal evidence thrown around of wasteful construction, but I’m sure you’d agree anecdotes aren’t necessarily convincing. After all, I have plenty of anecdotes going the other direction.
15 years ago, there was overwhelming criticism of Beijing’s capital airport construction project… not to mention the 3rd ring road construction projects. And in the early years after their completion, both were relatively empty and led to many similar predictions of excess capacity, wasteful spending, etc. I can’t imagine Beijing today if the capital airport didn’t exist (or half its present size), and/ I certainly can’t imagine Beijing proper not extending past the 3rd ring road.
I personally believe the huge upsurge in vehicle purchases this year are coming about partly *because* of the huge investment in infrastructure. If roads/per capita was 50% less, there would be far fewer buyers.
And what about the ultimate “white elephant” infrastructure project in the Three Gorges Dam? There was much hand-wringing that the electricity it was generating couldn’t possibly cover the cost of its construction… and anyone who’s looked at the numbers recently would realize that won’t be a problem.
Some of these projects might have extended payback schedules of 10-20 years, but that doesn’t necessarily mean the ROIs are poor, or that the use of this capital was economically inefficient.
Bottom line, I’m not looking to compare anecdotes of fully filled apartment buildings (many of those) versus empty apartment buildings (some of those too). But has anyone in the academic community done some rigorous accounting for the “quality” of past infrastructure investment on the mainland?
Will you be attending all of the shows in nyc?
I’ll try to get to the Santos Party and Columbia U shows. Hopefully you can sign my copy of The Volatility Machine.
Till, Just copy the URL to the German article into http://www.babelfish.com on-line translator and you will get an amusing, but more or less understandable English translation.
CCT
I was at Beijing Capital Airport this morning, they still have only opened two parts of the “biggest terminal in the world” (which is actually 3 terminals connected by a train.) Unodoubtedly in the future these structures will be useful – although some would say that a city beijing’s size would benefit from more big airports, not just making one bigger and bigger. (The other two are really very minor).
There is a problem with opportunity cost though. EG – Even in Beijing a lot of schools are not exactly well furnished in terms of equipment, classrooms and IT. I dread to think what the situation is like in small towns and villages.
I suppose educational investment takes even longer to pay off than airports / infrastructure. We are about to be treated to even more subway lines though, i think Beijing line 9 and 15 are well under construction.
In Shanghai we still have the world’s only commerically operated Mag-Lev train. I think the previous one in the UK in the 1980s went bankrupt and shut down. I am not sure, but i think that this one in Shanghai is still not breaking even, let alone covering the initial investment. I was very glad when they scrapped the ridiculous plan (some would say as the Tuanpai stepped up pressure on the Shanghai group) to build one from Shanghai to Hangzhou – the cost difference from a normal high speed train to the mag-lev was tremendously large, and the journey time was less than 20 minutes difference.
I think Ms Yeo makes some excellent points above about infrastructure.
Jeff, I agree. If China is going to increase investment in transportation infrastructure (and in other areas, like education, communication, and so on), it would be much better to improve the low quality stuff, building more ordinary trains and railroads, village schools, dirt roads, etc. Unfortunately not only is this stuff low prestige, it is also low cost and cannot come close to absorbing the huge investment that China wants to finance.
George, Jane Jacob’s advantage might have been that unlike most of us, who cannot see the forest for the trees, she could take a much more objective view and apply simple common sense. Common sense is a very rare quality in economic analysis. To me it is common sense that a country that has had the highest investment rate in history of any major economy cannot simply resolve its problems by increasing the investment rate sharply.
Judy, I am not saying that ending additional investment in overcapacity will be easy. I think they have no choice but to end it if the US won’t be able to absorb the gap. It will be very tough, but I am not sure they have realistic alternatives.
Good point, Bob. The way I think of it is that NPLs are counter-cyclical. They are low when times are good, and support bank growth, but suddenly explode when times are bad and so force credit contraction. In that sense they always lag underlying conditions.
Figigi, people sometimes do refer to chicken farmers instead of pig farmers. I guess the reference is to all those rural entrepreneurs who get very rich in the first wave of liberalization. In more recent times, billionaires seem to come from the ranks either of the well-connected or of returnees who invest in favored sectors, like the internet.
CCT, I agree that a lot of this (as it must be in China) is anecdotal. I infer the amount of waste from the disparity between production growth and growth in household income (and consumption). In my model, this is explained by transfers from the household sector required to keep investment viable.
Adam, I will be at all the shows until November 11, when I return to Beijing. I will definitely be at the Santos and Columbia shows. Look for the oldest guy in the party.
The tightening of monetary policy notwithstanding, whether the USA complies or not, chances are as long as public spending needs to be boosted (be it due to politics or financial consideration)infrastructure will be “improved” .of course what counts as “infrastructure”
is debateable . My suggestion, less of the ego projects, more of what is truly useful.
Not to be contrary, just as the level of development of a country is dtnamic (it is after all a relative measure is it not?) so should the level of infrastructure development – just as no nation goes from less developed to developed overnight (progress takes years, the recognition process/conferment process takes a little less time)so no infrastructure plan should go from stage a to z just because the country’s gone from less to more developed .
btw I actually remember when that hangzhou -shanghai line was first mooted – didn’t quite believe they didn’t have better ways to spend the money!
On the relative value of China’s infrastructure spending, Bloomberg reports something relevant to the topic…….
China Southern Airlines Co., the nation’s biggest domestic carrier, will expand overseas flights in anticipation of a high-speed rail network causing traffic to decline on about a quarter of its internal routes……..
http://www.bloomberg.com/apps/news?pid=20601089&sid=a3GHSPLBfBOM
CCT: Again, I don’t pretend that this is a comprehensive overview of the issue, and I’m sure you could provide a much better treatment of the issue. Here’s hoping that you tackle the matter more seriously.
One of the most important reasons of China building high-speed passenger rail is freight transport–yes, freight transport. In China, the official name for high-speed rail is Passenger Dedicated Lines (PDL).
Today’s, almost all of China’s overcrowded railways are shared by passenger transport and freight transport. The freight transport has much lower priority and are often sacrificed to ensure the normal operation of passenger trains. It’s hardly visible to the public but hundreds or even thousands of freight train cars are often stuck in some no-name railway stations for days or weeks to make room for passenger trains regularly. The irony is, the freight transport is much more profitable than the passenger transport, which makes slim profit relative to the size of the traffic. For a lot of shippers, rail transport is too unpredictable and capacity is hard to get, they therefore elect the more expensive highway transport.
One the passenger transport side, railway is gradually losing market share to airlines and buses despite raising the average travel speed six times across the country in the last decade. It is unbelievable to some that for these “poor” Chinese and such a “low-level development” country like China, there is great demand for fast, comfortable and convenient rail transport services.
And what about the argument that “After all an American might gladly pay $100 a month to cut his daily commuting time by one hour, but for most households in Beijing or Shanghai this would be the equivalent of paying one-third to one-fifth of their income – probably not worth it.?” Let’s compare Beijing-Tianjin to New York-Philadelphia, which is of similar distance, and it’s $8.5 vs. $45 (lowest fare on Amtrak), 27 min vs. 1hr and 26 min. travel time. Keep in mind: the high-speed railways are built and operated by Chinese; the high-speed train sets are made in China, mostly.
And how about the argument that high-speed rail is giving airline some serious competition? So much the better! It is well-known that high-speed rail poses serious competition to airlines in short- to medium- travel distances based on the experiences in Europe. In fact, the newly-opened high-speed rails of Taiyuan-Shijiazhuang-Beijing in the north, Wuhan-Hefei-Nanjing-Shanghai along the Yangtze River and Ningbo-Taizhou-Wenzhou-Fuzhou along the southeast coast have all driven down the cost of bus transportation and airfares. Airlines’ advantage is long-haul transport and bus is more suitable for local and short-haul transport. Over time, they will find their respective markets. Why would China protect the airlines when high-speed rail is obviously the more convenient, cost-effective and environmentally-friendly mode of transport for many markets? Why would China not to support a largely domestic industry but to protect an industry that burns a lot of fuels and import expensive aircraft?
High-speed rail is an important national infrastructure that will last at least 50 – 100 years, especially for a large country like China. If Japan could build the bullet trains in the 1960s, why would China not build a national railway network based on 21st century technology? I’m all for more spending on health care and education, but there is no conflict between building the nation’s critical physical infrastructure and social infrastructure. Building a much-needed national high-speed rail system requires hiring a lot of labors and operating a large-scale national high-speed rail needs to employ a lot of people and better yet, it supports a large domestic industry and helps the upgrade of their technologies.
Dean Jackson,
Dividing GDP growth by dollars invested isn’t necessarily a good measure of investment. No business should be evaluating their investment choices solely by how much it increases revenues *next year*. No one can expect traffic to fill a new expressway when no road existed before; these are clearly long-term projects.
You have to look at the long-term ROI of these projects. MPettis and I agree we won’t *really* know for 10-20 years whether the current construction is useful. We seem to disagree only on whether China has a “history” of misallocated capital. My (non-academic) impression is that the ROI of the vast majority of infrastructure projects developed from 1990-2000 in China has got to be extraordinarily high.
Houhui,
The Beijing Capital airport’s third terminal was only completed last year (2008), just in time for the Beijing Olympics and intended to manage overflow traffic associated with that event. I was actually referring to the airport’s first and second terminal, which were completed about a decade ago to much complaint about wasted capacity and economic inefficiency.
I would agree with you on maglev, that was clearly a show piece project which had no economic value. But if they got the maglev wrong, at least it led to the right decisions being made on high-speed rail elsewhere in the country.
I also would *not* agree with you on subway construction in Beijing, or just about any other Chinese city. If you look at a map, housing/commercial development soars in conjunction with every new subway line as more commuters take advantage.
Houhui,
By the way, in reference to education in Beijing… what specifically did you see missing in Beijing schools, in terms of facilities? Obviously, rural Chinese schools could always use more funding. Fundamental reforms in education are probably necessary, but IMO, the great majority of urban Chinese schools do not need more money thrown at them.
It’s been several years since I visited a school, but even 10 years ago second-line cities had computer labs that were fully stocked with modern computers. And urban teachers are being paid very well, including significant raises this year (speaking from personal experience with family/friends).
I think the whole idea of China needing to invest much more in education is misleading, frankly. More equitable education, sure. But China is already pumping out more university graduates than the economy can usefully absorb… would it really help to double their number? The bottleneck here lies in that Chinese enterprises need time to absorb the existing talent, and climb up the value chain where higher education is useful.
Houhui: I was at Beijing Capital Airport this morning, they still have only opened two parts of the “biggest terminal in the world” (which is actually 3 terminals connected by a train.) Unodoubtedly in the future these structures will be useful – although some would say that a city beijing’s size would benefit from more big airports, not just making one bigger and bigger. (The other two are really very minor).
Greg: Here is the ranking of the world’s busiest airports (http://en.wikipedia.org/wiki/World%27s_busiest_airports_by_passenger_traffic). Beijing was at 4th place based on traffic from January to July; it was at the 8th place in 2008 and 9th in 2007. Earlier last year before the financial crisis, CAAC had frozen the approval of new flights at Beijing airport due to capacity constraints. I’m sure you understand that you need a lot of infrastructure to support a large airport and you don’t just build a new airport as soon as the two existing smaller terminals were out of room. You build a second runaway and you build a third terminal.
By the way, Beijing is planning to build a second large airport in the south.
I would challenge anyone who calls Beijing Capital Airport is wasteful infrastructure building.
Houhui: There is a problem with opportunity cost though. EG – Even in Beijing a lot of schools are not exactly well furnished in terms of equipment, classrooms and IT. I dread to think what the situation is like in small towns and villages.
Greg: Chinese government has eliminated all tuition and fees in the country (both in urban and rural areas) for nine-year education in the last few years and has increased educational expenditure substantially recently. I completely agree that China needs to spend more in education, especially in primary and secondary education. But I would pit education spending against infrastructure spending – China needs both. Just because China should and can spend more in education doesn’t mean majority of the infrastructure spending is wasteful, the latter point is what China-skeptics are trying very hard to convince people opposite to the facts.
Houhui: I suppose educational investment takes even longer to pay off than airports / infrastructure. We are about to be treated to even more subway lines though, i think Beijing line 9 and 15 are well under construction.
Greg: Do you have a better and realistic suggestion for Beijing to deal with the city’s transportation needs and traffic congestion?
Houhui: In Shanghai we still have the world’s only commerically operated Mag-Lev train. I think the previous one in the UK in the 1980s went bankrupt and shut down. I am not sure, but i think that this one in Shanghai is still not breaking even, let alone covering the initial investment. I was very glad when they scrapped the ridiculous plan (some would say as the Tuanpai stepped up pressure on the Shanghai group) to build one from Shanghai to Hangzhou – the cost difference from a normal high speed train to the mag-lev was tremendously large, and the journey time was less than 20 minutes difference.
Greg: Shanghai’s Mag-Lev has been a money-losing white elephant, no question about it. I have also always been critical of the project and believed it has partially to do with the vanity of the Shanghai Municipal government. The reason they wanted to extend it to Hangzhou is because they believe it would bring more passenger traffic to the point where the whole Mag-Lev lines would break-even. Apparently, not many people support the idea; least of all, the Ministry of Railway completely ignored it and is building the conventional high-speed rail from Shanghai to Hangzhou now.
But to be fair to Shanghai’s Mag-Lev project, you need to understand the historical context of such a project. China’s high-speed rail dream dated back much early to Deng Xiaoping’s famous ride on Japan’s bullet train in 1978 when he visited Japan. Since the early 1990′s, there had been a nation-wide, heated debate on what kind of high-speed rail technology should China adopt to build its upcoming national high-speed rail network: mag-lev or conventional. The Ministry of Railway is in the conventional camp. The all-important Beijing-Shanghai high-speed rail was postponed again and again due to the debate.
Unable to make a decision, the central government decided to work with Germany to build an experimental mag-lev line to gain experience and to develop more indigenous mag-lev technologies to reduce the cost. Zhu Rongji visited Germany and rode on Germany’s experimental mag-lev line. Shanghai was willingly selected as the test site. The Shanghai Mag-Lev line started construction in 2003 and was completed in 2004. In the end, it turned out that mag-lev is too expensive to build and operate; plus Germany refused to transfer more technologies.
In 2004, the State Council approved the Mid- and Long-Term Railway Plan. In 2005, the Ministry of Railway started to build the Wuhan-Guangzhou and Zhengzhou-Xian high-speed rails (all 350 km/h railway), both are national trunk lines. In April 2008, construction of the high-profile Beijing-Shanghai high-speed rail started and Premier Wen Jiabao attended the opening ceremony. The debate between mag-lev and conventional high-speed rail technologies was thus settled.
I guess I’m trying to provide some background information so that people outside China or people who don’t know much China can better understand and appreciate the cautious and thoughtful process that China follows in building its large national infrastructure. To be sure, there are and will be wasteful infrastructure projects in a large, complex and rapidly-changing country like China, but to portrait much of China’s infrastructure investment as hugely wasteful driven by a bunch of reckless and retarded commies who have no professional competency and no regard to the country and people’s welfare is – what do I say?
I’m exaggerating, but you get the point.
CCT: And what about the ultimate “white elephant” infrastructure project in the Three Gorges Dam? There was much hand-wringing that the electricity it was generating couldn’t possibly cover the cost of its construction… and anyone who’s looked at the numbers recently would realize that won’t be a problem.
Greg: Three Gorges Dam the ultimate “white elephant?” Says who? I supposed this is “conventional wisdom” in the West, or at least in certain circle of the western media. But it’s completely the opposite at least in China.
The main purposes of the Three Gorges Dam are electricity generation, flood control and water transport. It started construction in 1997 and is completed this year. The electricity it generates is equivalent to those generated by 50 million tons of coals; 3,000-ton ships can now directly sail to Chongqing from Shanghai compared with only 1,000-ton ships taking much longer times before, providing a very inexpensive and the lowest-cost mode of transport for the land-locked 100 million population in Chongqing/Sichuan; the 1998, once-in-a-century flood that had threatened the lives of 15 million people in the middle- and lower- streams of Yangtze River can now be dealt with easily.
And the Three Gorges Dam is not a product of communist revolution. It was first proposed by Dr. Sun Yat-sen, founders of Nationalist Party and Republic of China, in 1919, in his famous “A Blueprint of Nation Building.” It was studied and investigated jointly by the Nationalist government and US experts in the 1940′s with a proposed design. It was again investigated and surveyed by the Communist government with the help of Soviet Union experts in the 1950′s. The project had been researched and studied for nearly 50 years before it was finally put to vote in 1992 by the National People’s Congress – the first national infrastructure project ever that had to be approved by the national legislature.
The total cost of the project is less than the Beijing-Shanghai High-Speed Rail project (although I think it’s actually costing more after adjusting for inflation). The ROI and economic benefits are indisputable.
There have been concerns and controversies, mainly about environmental and ecological impact, the human rights of the 1.3 million people that have to be relocated, and the viability of certain engineering aspects. In certain media, you won’t read the benefits and success of the project, all you read is the dissenting voices and the supposedly negative impact of the project. The people who are against the project were often termed as “dissident.” No wonder, after a while, it would become an established fact that the Three Gorges Dam has become the ultimate “white elephant,” to say the least.
Dear Michael and all readers,
I just came accross the website and current discussion. it’s great. thanks.
concerning NPLs, a recent study by Tong Li (China’s Nonperforming Loans: A $540 Billion Problem Unsolved) is very useful but scary when one goes through it. NPLs have been, are and probably will be a matter of concern, the end of this year being a interesting point in time (see article). Clearly there will be an issue with NPLs but as problem unfolds government will be ready to intervene and pump money into the sick system again. Losses will appear but not on companies’ balance sheets, rather governement write-down will seem more economically sound to investors.
As regards to quality of GDP, it is true that misallocations are unecessary and not sound but as China’s 30 years development strategy has showed, quick gains are possible even with bad allocation. Yet it seems that quality has become an issue for the governement since a long time ( for example environmental ministry has been settled in the 1990s as part of recognition of the importance of preserving natural assets). That said environmental laws enforcement has not been an easy task as local governments are more concerned by numbers that they are by social/enviromental ideologies.
To make it short misallocation (and therefore low quality growth) has been at the heart of the world recovery, pushing commodities higher. Real estate is looking stretched (living habitat square meters have reached Asian mean) so the current overcapacity could well bid for another bubble formation.
What could stop that on the short to medium term?
CCT,
Perhaps I expressed it poorly. The metric is an ROI concept. A stream of future GDP per unit of investment. The marginal return to China of its investments has been declining and, if the 2009 estimate is anywhere near correct, dramatically so in this latest round of stimulus.