MONTREAL - If the Chinese stock market is still an indicator of global investor
appetite for risk, as analysts viewed it a few months ago, then that appetite
has lately diminished. Perhaps they are finally absorbing some of the
revelations about statistical manipulations.
They may also be reacting to more recent revelations warning of bank fraud in
China. In one case, the Royal Bank of Scotland is reportedly investigating
suspected fraud in its China unit. Client losses could be worth up to US$3
million, the Financial Times has reported, citing local media.
Whatever the reason, neither Chinese nor global stock markets responded
favorably last week to the news that Chinese exports
fell "only" 1.2% in November from the same period last year. The year-on-year
figure for October had been down 13.7%.
Government statements in September that the stimulus would not be rolled back
pushed stock averages higher at the time, but these have stagnated over the
past month despite the appearance of a continued up-trend. The news that the 8
trillion yuan (US$1.17 trillion) centrally established lending target for 2010
was less than the 2009 figure had no effect; that figure is still twice the
level from 2008.
Easy money has strongly encouraged speculation in real estate and the stock
market. These sectors are already in bubble mode, and the government fears
bursting them. The advance of the Shanghai Stock Exchange Composite (SSEC)
average to the mid-3,400s in late July and early August was entirely driven by
hot money following government spending in support of domestic consumption and
production by small and medium-sized enterprises.
Hong Kong Trader, a news and publicity organ of the former colony's Trade
Development Council, quotes Morgan Stanley Asia's chairman Stephen Roach as
estimating that the stimulus accounts for 95% of China's economic growth
through the first nine months of 2009. He voices a widespread skepticism over
whether foreign demand will drive the export sector after the current domestic
investment kick tapers off in the second half of next year.
The danger is that, for internal political and economic reasons, China may
respond to that absence of foreign demand with another domestic investment
stimulus. It is a danger because there is only so much the domestic economy can
take: Shanghai has a nearly 50% commercial space vacancy rate, yet skyscrapers
continue to go up there to provide employment and income for consumer spending.
At some point, domestic Chinese overcapacity, still worsening as utilization
rates stagnate and capital spending continues, risks beginning to drive down
world prices for export goods. That would lead to factory closures overseas in
countries unable to compete, followed by unemployment there and social unrest -
precisely the phenomena that Beijing is seeking to avoid at home.
Central economists in China recognize the overcapacity dangers but even as they
named various industrial sectors that will be excluded from further capital
investment and construction, they do not control all the spending. That is
because local and provincial governments have incentives to promote such
projects without reference to national policy goals, indeed to prevent
implementation of national policies unfriendly to their regions.
Retaliation against China by political leaders of affected countries, through
tariff and non-tariff barriers, then becomes an expedient riposte. Such
retaliation could easily unleash the danger that protectionist policies are
then generally adopted. The Financial Times suggested last month that such
conflicts may be inevitable and recommended reforms that would decrease
corporate revenues in favor of consumer income.
That will not happen overnight, and any resulting self-reinforcing spiral would
bring about still further declines in overall world production, leading to
further global job layoffs in a vicious circle.
To the degree that Chinese trade is driven by import of components for domestic
assembly and re-export, the fall-off of foreign consumer demand would take even
more air out of Chinese economic activity, increasing domestic unemployment and
resultant increased potential for political unrest that Chinese leaders are
seeking to avoid.
None of this is a barrier to further advances by the Chinese equity markets in
the medium term, although exhaustion looks to be setting in for the time being.
On the basis of its own dynamics alone, the SSEC should not have exceeded 3,300
in summer, although its breakout up through the ceiling of its earlier
2,850-3,000 trading range was a good sign.
The SSEC has not yet challenged the medium-term high of 3,471 and has failed so
far to keep its head above water at the 3,264 level. There is, however, another
support at 3,140 before the old trading range comes again into view.
Any further advance by the index above medium-term highs risks being followed
by a significant decline into stagnation inside a new trading range. The
relative strength of the yuan puts China at an advantage over its major trading
partners, yet any move towards its upward re-evaluation would put further
downward pressure on stock prices in the country.
Dr Robert M Cutler (http://www.robertcutler.org), educated at the
Massachusetts Institute of Technology and The University of Michigan, has
researched and taught at universities in the United States, Canada, France,
Switzerland, and Russia. Now senior research fellow in the Institute of
European, Russian and Eurasian Studies, Carleton University, Canada, he also
consults privately in a variety of fields.
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