The Sounds of Bubbles Bursting
I recently met with a finance professor from a major U.S. business school who happens to be a native of China. Reflecting on the two weeks he had already spent getting re-acquainted with his home country, his first comment to me was telling: “This place has bubble written all over it.”
You don’t have to be a finance professor to come to the same conclusion. Signs are everywhere—from an inflated stock market, to growing inflation to ever increasing apartment prices. The questions are: Does China have a hard or soft landing, and what does it feel like? What happens after the Olympics?
I have to keep reminding myself that I have already been through a relatively hard landing in China. In 1994, China’s economy was overheated and inflation peaked at 24.1 percent. Zhu Rongji, China’s then-economic czar, had a simple solution. He immediately clamped down on credit, dramatically slowing the growth in China’s economy.
In 1992, 1993 and 1994, China’s Gross Domestic Product (GDP) grew by 14.2 percent, 14 percent and 13.1 percent, respectively. From this blistering pace, GDP growth slowed to 10 percent by 1996, and fell to a low of 7.6 percent in 1999. Although these growth rates still seem high by global standards, many economists at the time questioned whether they were overstated, with the Chinese government attempting to put a good face on a sluggish economy. In fact, analysts began to track measures such as the growth in electricity demand as proxies for economic growth. These metrics suggested slower growth than advertised by Beijing and appeared to be more reliable indicators as to the overall health of the economy.
The China economy of 2008 is a great deal larger and infinitely more complicated than the one that existed in 1994. It is therefore doubtful that simply restricting credit would ever work today, although this hasn’t stopped China’s government from trying. The general efforts by China to slow down its economy have not brought it to a screeching halt, but there are growing signs that we are on the other side of the high growth cycle.
A good benchmark is the Shanghai stock market, which has essentially done a round trip over this past year. At the beginning of 2007, the Shanghai Composite Index was just above 3,000. By mid-year, it had nearly doubled to 6,000. Last week, it slumped to 3,411, its lowest level since April 9, 2007. The Shanghai Index has fallen 35 percent this year, making it one of the worst performers among Asian markets.
PetroChina, the poster child for the China stock market, made its debut in Shanghai in early November and nearly tripled in price to 43.96 yuan in its first day of trading, giving it a market cap of over $1 trillion. Last week, it fell to 16.99 yuan, barely above its IPO price of 16.70 yuan.
Other signs are less dramatic but nonetheless apparent. Baoshan Iron reported last week that 2007 net profit fell by 2.8 percent on higher ore prices, suggesting a weaker market where higher raw material prices cannot be automatically passed along to customers. Inflation continues to be an issue, increasing to 8.7 percent in February, after a 7.1 percent rise in January, marking its fastest pace in nearly 12 years. Partially to offset higher food prices, China’s main source of inflation, the yuan has been allowed to increase sharply against the dollar, thereby reducing the cost of imported grain.
All of this suggests an economy which will begin to slow, if it has not already. What the rest of 2008 brings, and whether the inevitable emotional letdown after the Olympics has an economic impact, is anyone’s guess. However, it is certain that Beijing is pulling a number of levers to cool an overheated economy and bring it down to a more sustainable level of long-term growth.
