As we read lower down today, China’s economic rebound has dragged the rest of Asia back into the black.
But a growing number of western commentators (Many of them in America and Europe) see a bubble developing in China, followed by a slump.
But Dr Shane OIiver, chief economist of the AMP, doesn’t see it that way.
Making the right call on China is now critically important in terms of the investment outlook.
However, while there is always a lot of scepticism regarding China, it seems that the “China is a bubble about to burst” camp has grown in number or at least become more vocal.
The principle arguments are that China has overinvested, its export potential is exhausted, its assets are in a bubble, bank lending has been excessive, and as stimulus is removed in response to inflation its growth will collapse.
While such a scenario cannot be ruled out, it is unlikely.
Has China overinvested?
Investment in China is now 40 to 50% of GDP, which is well above comparisons to other countries and there is no doubt it cannot continue at this pace.
Yes, there are pockets of excess. However, there is nothing to suggest that China has overinvested on a national basis.
China is still a poor country, with per capita GDP of just over $US3,000, compared to $US42,000 in Australia and $US46,000 in the US.
It still has a lot of catching up to do, and it needs investment to do so.
The recent surge in investment in China has not been in factories but rather in infrastructure.
But China is not a rich country like the Japan of the 1990s that built “bridges to nowhere” in a misguided fiscal stimulus.
It still has a fraction of the railway length the US had a similar stage in its development 100 years ago.
It suffers from significant transport bottlenecks that, for example, have now forced it to become a coal importer despite having significant coal reserves of its own.
- The surge in investment in recent years has not been in the coastal provinces but rather in inland provinces where the shortage of productive capital including transport infrastructure is most intense.
- The stock of productive capital per person is about 5 to 10% of what it is in the US and other advanced countries, so there is a long way to go before it can be claimed that China is overinvested.
- Despite claims to the contrary there is little evidence investment in China is seeing a lower return in terms of GDP growth than has been the case in the past.
What about China’s reliance on exports?
A common concern is that, with China’s wages on the rise and consumer demand in the US, Europe & Japan likely to be subdued, China’s export boom is over.
However:
- The importance of exports has been exaggerated – thanks to strong import growth, net exports only accounted for 1.2 percentage points of China’s average 11% GDP growth rate over 2000 to 2007, ie, just 10%.
- China has diversified its export destinations – ten years ago 49% of China’s exports went to North America, Europe and Japan. Now only 38% do.
China is doing a lot to encourage consumer spending including boosting social welfare to reduce precautionary saving.
China currently has just about the world’s fastest rate of growth in consumer spending.
Chinese wages are still very low, particularly in the largely untapped central and western provinces.
Are China’s assets in a bubble?
Emerging countries are often prone to bubbles given their strong growth potential, more volatile economic cycle and, at times, easier monetary policies.
This is made worse in China with interest rates being maintained at an artificially low level and the exchange rate is undervalued (which creates problems with hot money capital inflows).
However, right now it is hard to see a broad based bubble in China.
Firstly, while the Chinese A share market is up stronglyfrom its 2008 lows, since August last year its been rangebound and it is still down 50% from its all time 2007 high.
Similarly, while Chinese shares are trading on a price tohistoric earnings multiple of 31 times, this is actually below its average over the last decade or so and since earnings are expected to rise by 30% over the year ahead and 20% in 2011, the forward earnings ratio is 18 times.
So it’s hard to argue there is a bubble in the share market.
There has been much concern about a bubble in residential property.
This is a valid concern in some cities – for example house prices in Shanghai rose 40% last year.
However, China is a big place and it is dangerous to base anecdotes on the situation in just a few cities.
Several points suggest there is no housing bubble overall.
While China’s average 70 city house price index rose 9.5% over the year to January this is not that strong given nominal GDP is rising by around 13%.
This contrasts, for example, with Australian average capital city property prices which rose by 13.6% last year at a time when nominal GDP growth was actually flat.
It’s been a similar story over longer periods with average house prices not keeping up with growth in GDP. See the next chart.
For example, over the last decade China’s real GDP growth averaged 9% pa but real house prices only rose 5.3% pa.
By contrast in Australia over the last decade real GDP growth averaged 2.9% pa, but real house prices rose an average 6.4% pa. Who has the bubble here?
