Friday, January 16, 2015

For China, even good numbers don’t add up



The improving United States economy has brought some welcome cheer to officials in Beijing, which reported an unexpectedly high 9.7 per cent jump in December exports on Tuesday. If those numbers continue in the months ahead, they would also be good news for a global economy that is running short on viable growth engines.

Not all analysts are convinced that they will. Many predict that China will have to loosen monetary policy soon to ensure that gross domestic product growth stays above last year’s target of 7.5 per cent (it is currently around 7.3 per cent). That is worrisome because of a different number entirely: 251.

That, in percentage terms, is Standard Chartered’s working estimate for China’s debt-to-GDP ratio. Already worryingly high compared with where Japan was 25 years ago when its own bubble burst, the number will only rise further with additional stimulus. The more China gins up growth this year, the more irresponsible lending it will have to service in the decade ahead.

The maths simply does not work out. Even if China could somehow return to the heady days of 10 per cent-plus GDP growth, its debt mountain would by then be nearly unmanageable.

“We’ve got the biggest debt bubble that the world has ever seen and credit is continuing to grow twice as fast (as output),” Ms Charlene Chu, a former Fitch Ratings analyst, told Bloomberg Television earlier this week. Those who believe China can somehow grow its way out of this problem are fooling themselves. “Mathematically, that’s impossible when something is twice as big as something else and growing twice as fast,” Ms Chu noted.

From Japan to Argentina to Greece, recent decades offer many examples of governments thinking 1 + 1 = 3. It took Japan more than a decade after its bubble burst in 1990 to create the Resolution and Collection Corporation (RCC), modelled after America’s Resolution Trust Corporation, to dispose of bad loans. China cannot afford to wait that long to head off a full-blown crisis. It is one thing for a US$24 billion (S$31.9 billion) economy such as Argentina to blow up; it would be quite another if the world’s second-biggest plunged into turmoil.

Yet, for all the official talk about curbing borrowing and adjusting to a “new normal” of lower growth, Mr Xi’s government still has not shown the stomach necessary to bring China’s debt problems out into the open and deal with them. Even one of the first defaults on an offshore bond by a Chinese developer last week ended happily. Kaisa Group had missed a US$23 million interest payment, but quickly received a waiver from HSBC. Since not all property companies will get last-minute reprieves, these kind of manoeuvres only delay a reckoning.

What should China be doing? First, clamp down more firmly on new borrowing, particularly to the state sector. While that would roil credit markets and crimp growth, it is vital to gaining control of the financial system.

Next, conduct a truly transparent audit of public debt and the shadow-banking system. China does not offer data on the latter, leaving the private sector to guesstimate. Ms Chu, who is with Autonomous Research in Hong Kong, put Chinese bank assets at around US$28 trillion the end of last year, a huge increase from US$9 trillion in 2008. As any 12-step programme participant can attest, sobriety requires first admitting the magnitude of one’s problem — and publicly.

Finally, China needs to create a mechanism to collect and write down bad assets. Only by doing so can Beijing prod wobbly banks to act openly and quickly to repair balance sheets. There are many ways China could go — a Japan-like RCC or a Sweden-like purge and bank recapitalisation. The point is to address its maths problem frontally. However cheery they may be, trade and GDP figures are the wrong numbers on which to focus. 



William Pesek is a Bloomberg View columnist based in Tokyo who writes on economics, markets and politics throughout the Asia-Pacific region.

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