Is China a bubble?
Answer: We'll see.
Today on the podcast we listen to Jim Chanos, and we put up a longer talk of his on the relay this next Saturday. We will first relay the opinions of Janet Yellen, president of the San Francisco Fed, Dani Rodrik, who has been getting a lot of play, and some comments from Barack Obama. We will squeeze in a few thoughts on the dynamics of bubbles and whether China has sufficient Ponzi financing and internal corruption to get one going like the big boys.
Michael Derby reports on comments from top Fed official Janet Yellen, saying last week that U.S. monetary policy is too hot for China and Hong Kong. Any trouble those nations ultimately face arises from their own foreign exchange policies. “Because both the Chinese and Hong Kong economies are further along in their recovery phases than the U.S. economy, current U.S. monetary policy is likely to be excessively stimulatory for them.... However, as both Hong Kong and the mainland are currently pegging to the dollar, they are both to some extent stuck with the policy the Federal Reserve has chosen to promote recovery.” She said said that if China wants to prevent U.S. policies from overheating its economy and driving inflation, it will have to do something about its foreign exchange policy. “Increased exchange rate flexibility could mitigate growing inflationary concerns, and also act toward easing global imbalances and encouraging the development of the household sector, a shift the Chinese government now officially says it wants.”
Dani Rodrik of Harvard, by way of Arvind Subramanian, estimates that China’s undervaluation has boosted its long-run growth rate by more than 2 per cent by allowing greater output of tradable goods. Higher tradable goods production in China results in lower traded goods production elsewhere in the developing world, entailing a cost for these countries. There may be some demand from China as a result of its rapid growth, but China’s large current account surpluses suggest that it goes only part way to replacing lost demand to poorer countries.
These emerging market victims of China’s exchange rate policy have remained silent because China is simply too big and powerful for them to take on. And this despite the fact that disaffected constituencies now encompass not just companies but also central bankers, who have found macro-economic management constrained by renminbi policy. Hence the third consequence. By default, it has fallen to the US to carry the burden of seeking to change renminbi policy. But it cannot succeed because China will not be seen as giving in to pressure from its only rival for superpower status. Only a wider coalition, comprising all countries affected by China’s undervalued exchange rate, stands any chance of impressing upon China the consequences of its policy and reminding it of its international responsibilities as a large, systemically important trader.
From Reuters, via Calculated Risk, we learn that President Barack Obama said recently, "One of the challenges that we've got to address internationally is currency rates and how they match up to make sure that our goods are not artificially inflated in price and their goods are artificially deflated in price. That puts us at a huge competitive disadvantage." Pimco's Paul McCulley listed this as one of the key issues for 2010: "The first issue is the peg between the Chinese yuan and the U.S. dollar, which essentially gives us a one-size-fits-all monetary policy in a very differentiated world..." And Professor Krugman wrote about this on Dec 31, 2009.... And Larry Summers mentioned this at Davos.... Getting the Chinese to revalue (or float) their currency is probably critical to the U.S. achieving Obama's ambitious SOTU goal of doubling U.S. exports in the next five years.
Thus the external world is concerned with China's predatory exchange rate scheme. But here is Jim Chanos, appearing on CNBC
Jim Chanos, who predicted the 1987 crash and made lots of money fifteen years later on Enron.
If you've been listening long, you know our view is China is more mirage than miracle. Their inability to create domestic demand by improving the social insurance network is remarkable. Like the U.S., they have focused stimulus at the top, not at the bottom, and like the U.S. they will pay. The environmental deficit they are running is ruinous.
But we know bubbles. Nobody is better at bubbles that the U-S of A. Demand Side knows you need cheap credit for bubbles. Apparently the central bank is reining in on that. According to many reports, they have already begun requiring higher reserves from their banks.
Now we've learned that credit money in the U.S. is created nine months before the money supply is ratified by the central bank. The recent attempts to recapitalize the banks in the U.S. as a way of harnessing the money multiplier did not work. We don't know about China's banking system, but we suspect there will be innovations formal and informal to end run reserve requirements. We do see evidence of the corruption required to extend the bubble in the very types of projects that have been selected as stimulus. As Chanos says here, twenty-five square feet of vacant office space envisioned for every man, woman and child in the country.
But the big point about bubbles is that they don't go quietly into the night. If they are credit driven, and they are chasing rising asset prices, then they don't level out or fade smoothly. When the price is no longer going up, the demand for the asset goes away and the price goes down. See the housing bubble and the commodities bubble of the past five years. The asset price increase is being driven by rising asset prices. It can't go on forever. When prices don't rise, they fall.
And as you heard here, there are many Chinese who have staked their savings and their family's savings on rising prices.
Not a pretty thing to contemplate. As we said, we will have the full Chanos on Saturday's relay.