There is some good news about Chinese retail sales, although I am not sure how useful it is because retail sales numbers in China have always been a little hard to reconcile with other indicators of domestic demand. According to an article in today’s Bloomberg:
Retail sales in China rose 13 percent during the three-day New Year holiday from a year earlier as both rural and urban consumers spent more, state television reported, citing commerce ministry data. Retail sales were 12.5 billion yuan ($1.83 billion) in the first three days of the year, China Central Television reported, citing a ministry survey of 1,000 major retailers. Household appliances and cars topped the list of purchases, CCTV said.
Against this, two recent indices indicate that manufacturing output continues to fare badly. The CLSA China PMI, released Friday, was 41.2 in December, the second worst month since the index started in 2004 (November clocked in at 40.9), and the fifth month in a row that in comes in below 50, which indicates a contraction in manufacturing output. The PMI produced jointly by the China Federation of Logistics and Purchasing and the National Bureau of Statistics was released today and, coincidentally, also came in at 41.2. According to an article in today’s Xinhua:
The Purchasing Managers’ Index (PMI) of China’s manufacturing sector climbed 2.4 percentage points month-on-month to 41.2 percent in December, China Federation of Logistics and Purchasing (CFLP) told Xinhua Sunday.
The index has been lower than 50 percent for three consecutive months. It was also the fifth time the index remained below 50 percent within last year after it fell to a record low of 38.8 percent in November. The new monthly figure reflected the country’s economy had further contracted, analysts said.
The article then goes on to quote Zhang Liqun, a researcher with the Development Research Center of the State Council, as saying that “the PMI figure indicated the economy remained in the tank but the number of purchasing managers who were bullish on the economy was on the rise. He said with previous macro-management policies taking effect, the economy would embark on a relatively fast growth track after the spring next year,” although the news agency regularly tries to put a positive spin on bad economic news, so perhaps we shouldn’t take Mr. Zhang’s comments too seriously.
The contraction may not be as bad as it seems because some of it seems to represent the running down of overstocked inventories, and so output could rebound in one or two quarters as inventories decline to the minimum necessary levels. Still, according to the CLSA report “Chinese manufacturers reduced the size of their workforces at the fastest rate recorded by the series to date.” An employment index it created suggests that in December we completed the fifth month of net layoffs, and of course rising unemployment is likely to lead to further contractions in demand. The risk is that we get caught in a spiral in which output declines to meet lower demand, but firing workers further forces demand to decline further. Unless there is a sudden rebound in export orders (don’t hold your breath) it will be up to new government spending to absorb unemployment and prevent demand from contracting further.
On that note Xinhua yesterday published a less upbeat story:
Cai Fang, a renowned labor expert in China, warns the country may see more job losses among urban workers in 2009 after millions of migrant workers became unemployed last year. The majority of job losses in 2008 were mainly reported among migrant workers, Cai, head of the Population and Labor Economy Institute under the Chinese Academy of Social Science (CASS), wrote in an article published in Caijing Magazine in December.
Migrant workers, who often work in factories, are among the first to bear the brunt of the current global financial crisis. Statistics from the Ministry of Human Resources and Social Security showed 10 million of China’s total 130 million migrant workers went back to their rural hometowns jobless last year after some exporters were forced to shut down or halt production to avoid losses as a result of decreased overseas demand. As a result, the income of rural and urban residents could grow at a slower pace, Cai said. The deceleration of income growth would definitely hurt consumption, he added.
There is a lot of hope being placed on either a revival of the export environment in early mid-2009 or on the success of the government fiscal expansion. The fiscal expansion plan is still too fuzzy to inspire much confidence and a number of Chinese economists I have spoken with recently are openly disparaging – even in print and on TV. One of them told me that he was worried that the government would be so desperate to boost growth that he wondered if we might not find ourselves having to choose between allowing growth to decline more sharply than anyone is comfortable with, or pulling out all the stops to jam growth forward, but in so doing create so much unsustainable and un-repayable debt that both the government and the banking system find themselves in real straits in two or three years.
Since this is something I also have been writing about, needless to say I agreed with him that there is a real risk that we “solve” the current problem by creating a more-difficult-to-solve debt problem in a few years. This is in line with my longstanding contention that there is no policy solution to this problem if by “solution” we mean some way of avoiding the consequences of massive overcapacity. It is just going to have to run down one way or the other, and without serious international cooperation the real policy choices for China are between “bad” outcomes and “worse” outcomes.
Actually quite a few local economists have been talking about the explosion in bad lending that they are expecting, and – no local economist, since he is American, but someone with a great view on Chinese policymaking – Victor Shih at Northwestern had a Wall Street Journal Asia Op Ed a few days ago which got a lot of attention and discusses exactly this problem. He says:
Risk-prevention institutions built up over the past decade are now under enormous pressure to forgo prudence in the interest of maintaining economic growth.…Meanwhile, if the economy worsens in the first quarter the government may be tempted to abandon prudent regulation altogether. Beijing could order the CBRC to disregard risk targets or even abolish the CBRC. This would plunge China back into the old days when the only risks that bankers faced were political ones.
I confess this is the thing that worried me most about the fiscal expansion plans. Since the social and political stakes are higher in China than in many other places, I think there is too great a risk that we overreact to the current mess by creating a potential debt disaster. This means that the next two years might not be as bad as I am expecting, but they will be followed by an even greater problem – another banking crisis – and without the furious global growth and ample liquidity of recent years, it will be much harder for China to grow its way out of a repeat of the late 1990s banking crisis.
I am struck in my conversation with Chinese economists about how openly dismissive they often are of recent policymaking. This adds some substance to the claims by my more politics-savvy friends that the debate – I hesitate to say warfare – within policy circles is hotter than ever. Blame, apparently, is flying back and forth, and even leaders at the highest level are facing strident criticism. This isn’t bad for China, of course, since one of the problems here has been the difficulty of changing policy once it has been decided, and a more intense debate should lead to a more realistic understanding of the consequences. It does suggest however how nervous people are.
One last comment before closing – I mentioned that there is still some hope in many quarters that there will be a revival in exports that may help pull China out of the current mess – even to the extent of people feverishly citing the explosive growth in Sino-Indian trade as an indication of things to come (although funnily enough Sino-Indian trade is almost negligible). I suspect that only people who have the dimmest understanding of the global environment and no sense of how the global balance of payments works hold this view (which is not to suggest that they aren’t the overwhelming majority), but it is probably reflected in the continuing debate about what must be done for China to regain its “competitiveness.”
In that light I though I would quote from an interesting article I read published by The Economist a scant few weeks (November 23) after the stock market crash of 1929. Perversely enough I love reading old article on economics and business news, and The Economist is a great source. This one says:
In any case, against any disadvantage arising from American competition must be set the great advantage which we mentioned at the outset, namely, the return to cheap money conditions. This should assist trade recovery throughout the world, which has been handicapped for so many months past by the abnormal financial conditions in New York. If we are justified in assuming that the setback in American industry will only be temporary, we may look forward to steady development in 1930, free from the incubus that has of late been hampering world conditions.
Nice Piece summing up a lot of issues that are going to play out.
One question – does anyone have data on where the increased retail spending is coming from. Are their sectors that are performing well? Is there a sector that essentially sandbagged a lot of sales that reflect a one off vs. a phenomenon that can actually be counted on to produce over the medium/ long term.
Where I am cautious on the spending is simply how the projects will be chosen. Are we looking at a lot of roads that will never be used? Is it realistic to expect Suzhou to spend a lot of money when their economy is depended on foreign investment that has now dropped off 40%?
r
http://www.allroadsleadtochina.com
> Where I am cautious on the spending is simply how the projects will be chosen.
That’s the crux of the matter. In order to deal with a demand crunch, it doesn’t matter were the money is spent, but the long run effect of any stimulus depends on exactly what the stimulus money is spent on.
The problem here is that people are looking only at one variable (i.e. the size of the stimulus package) and not looking at the important variable (the *content* of the stimulus package).
The basic monetarist/neo-Keynesian assumption that people make is that you don’t have to look at the content of the package because the markets will allocate the stimulus in ways that are maximially productive. However, I think this turns out not to be true, so a lot of what happens next will depend not only on the amount of the stimulus but rather on the details of how the stimulus package gets spent. In some ways, it’s easier for China since being relatively undeveloped, it’s much easier to find places where you can spend money in ways that turn out to be profitable. China probably can’t usefully spend more money on superhighways, but there is a lot of work that needs to be done on the rail system.
> This is in line with my longstanding contention that there is no policy solution to this problem if by “solution” we mean some way of avoiding the consequences of massive overcapacity.
But is “overcapacity” the problem? When you talk about China, it’s very strange to use the term “overcapacity” with income levels as low as they are. If there really was overcapacity, the solution would be to burn down steel factories, but that seems to be a rather odd solution. If you have idle steel factories, then the solution seems to be less to burn down steel plants and more to start building railroads.
Michael, does this have article have any merit? It seems that there are cracks forming in the mercantalist vendor-finance model for China:
http://www.timesonline.co.uk/tol/news/world/asia/china/article5432399.ece
Is this legitimate, or is it some sort of CIA misinformation campaign?
So what is going on?
The immediate problem right now is that we seem to be in a classic deflationary spiral. low confidence -> no spending -> job losses -> low confidence. The bad news is that without external intervention in the form of government stimulus, this spiral won’t reach any sort of equilibrium.
The reason consumer demand hasn’t dropped (yet) even through manufacturing is going down is that the Chinese economy being somewhat less reactive takes some time for the export demand shock to go through the system.
The longer term problem is that pumping money into the economy has two problems. The first problem is that once the economy gets out of the spiral, you have debts that need to be repaid. The second problem is the lag problem. If you start lots of infrastructure projects now, you will have a very difficult time turning off those projects once you get out of the spiral.
The other thing is that you get a laugh out of reading bad predictions from the past. That doesn’t tell you very much about the future. There are predictions that are laughibly optimistic from 1930, but you can find predictions of the future that are laughibly pessimistic from 1980. The problem with making any sort of prediction is “human agency.” Put simply, the fact that people can make decisions that change the future means that there is a limit to how much you can predict things. Where we are at the end of 2009 depends very much on the decisions that people make in 2009.
Personally, I think in looking at worst case scenarios, we are no longer at the point where the 1930′s should be the main focus of concern, since actions that were taken in October pretty much eliminated that outcome. Something closer to a worse case scenario may be what might be going on is the 1970′s, where you had a decade of economic turmoil.
Note to moderator: Feel free to use word subsitutions this to get past the keyword searches and the great firewall.
Bao Tong has written these sorts of essays continuously since 1989, and I doubt anyone in China cares about his latest essays any more than any previous ones.
One thing that does give the Communist Party some breathing room is that unlike 1989, there really isn’t any alternative ideology which can offer a better solution to the economic crisis. If you had a situation in which China was suffering but liberal democratic nations were prospering (which was the case in 1989), then the Party would be under much more stress than it is. Having Chinese liberal democrats talking about the current economic problems sounds a lot like having a 1960′s college socialist talking about the 1980 recession. History has passed them by, and they don’t quite realize it.
Something else is that there are no doubt some furious arguments going on in Zhongnanhai between people that think that the stimulus package is too much and those that think it is not enough, which is one reason that the plans so far have been “fuzzy.”
However, there is no particular reason to think that these arguments will fracture the Party in any real way, at least in the immediate future (i.e. in the next year).
All of this assumes that what we have here is a “standard recession” and things will hit bottom by the end of the year. If by the end of the year it’s clear that things haven’t stabilized and the standard policy prescriptions aren’t working, then we will be in totally uncharted political territory both in China and in the United States.
In terms of the selection of the projects that will be wrapped into the stimulus package, it is important to note that this is not a fiscal stimulus package, as Keynes would have in mind, but a financial one. Commercial banks, and some bond issuance backed ultimately by the MOF, will fund this, but not in a way that will directly hit the central budget in the short-term. Sure, ultimately everyone expects that this borrowing/debt will be guaranteed, but the indirect nature of this stimulus package distorts incentives for politicians because their responsibility is dilluted in a number of ways. They will direct these funds to the locations that serve their bureacratic interests first ahead of those that would do the most good for stimulus for stimulus’ sake.
[...] An employment index it created suggests that in December we completed the fifth month of net layoffs, and of course rising unemployment is likely to lead to further contractions in demand. The risk is that we get caught in a spiral in …[Continue Reading] [...]
Prof Pettis / Twofish,
I have a very basic economic question, and have asked many other. all have gave me one answer, but I am just not satisfied.
Is wealth created / destroyed or transferred during both booms and bust?
equities markets are down more than 5 trn usd globally in 08, but how much as treas gone up? just US, 30yr is up almost 40% and in total, more than 3 trn. transfer or destruction?
does anyone know if the Chinese holding of us treas in face value or market value?
trade surplus has increased by more than 250 bn in 2008, us treas holding increased by less than 200 bn. if face value, that makes sense, if market value, that means china has stop buying us trea??
i watched this over the weekend, was interesting.
http://video.google.com/videoplay?docid=-515319560256183936
also, one more question.
out of the 2 trn fx reserve China has. us treas only accounts for less than 700bn, what are the rest in? cash?
Michael -
I have thought about why retail spending has continued to stand up. The two asnwers I have came to are
- China being planned economy, most of the spendings are done so far on the budget that was made at the beginning of 2008. So, though people in Guangdong got laid off, people in the rest of the country still have not felt the pain and masks those laid off. Also, those laid off often have good enough spending power in the first 1-2 months.
- Maybe it is that the retail sales measurement is somehow skewed toward organized retail; and as organized retail outlets gain share against tranditional retail outlets, this sharegain masks the declining purchasing power.
Any thoughts?
Understand, Profit, and Share
http://uprofish.blogspot.com
All Roads and Uprofish, your points and questions are good ones but I am not sure how to respond. All I can say is that so far retail sales figures are not consistent with other measures, and it may very well be that retail sales are lagging data or they are not representative.
Twofish, I am not sure what and who you are reading, but your complaint that analysts are “not looking at the important variable (the *content* of the stimulus package),” doesn’t describe any of the analysis that is taking place here. Most analysts who are skeptical about the fiscal stimulus spend much of their time criticizing the content of the spending proposals. There are four major criticisms that are widely discussed: the stimulus is too small, its planned disbursement is too slow, it is being spent on the wrong things, and it is not being financed correctly. Your claim that the “assumption that people make is that you don’t have to look at the content of the package because the markets will allocate the stimulus in ways that are maximally productive” may be correct in general, but I haven’t seen anyone make that claim explicitly or implicitly. As for whether overcapacity can exist in a country with low income levels, of course it can. Overcapacity means producing more than is likely to be consumed, and I am not sure anyone has suggested that the solution is to burn down steel factories.
Credulous, I am not sure about disinformation campaigns, but most people I know who focus on these things are pretty certain that there is a serious split in the party leadership. The article you mention is about something that has been much discussed here, and there are all sorts of whispers about Bao Tong and what his article portends.
Leon, these are tough questions and of course hinge crucially on how you define “wealth”. Bubbles are not necessarily destructive of wealth in the long term because although investors may take big losses, the full social benefit of bubble-investment is not always captured directly in asset values. For example the railroad bubble in the 1860s left many people bankrupt after the 1873 crisis, but the US was left with an enormous network of train lines that may have subsequently played a major role in UDS economic growth, so was the US richer or poorer after the railroad bubble? My guess is that investors got killed by the country benefited. The same can be said of the internet bubble. This is, however, a very controversial view. Most economists would argue that bubbles create a net loss through misallocation of capital, but I suspect what is socially optimal is not always what is optimally profitable. As for your second question, all PBoC holdings are in the form of securities abroad (mostly US and Europe), and all are denominated in foreign currencies. We are also not sure how many UST bonds are held by the PBoC because some are held directly and some are held in street names through their brokers.
Prof Pettis,
Thank you for the explaination. Very very helpful.
Perhaps it makes more sense to refer to CCP-reported retail sales figures as “the plug”.
CLSA’s China Reality Research unit is reporting much worse estimates of activity from its retailing surveys.
Here are some thoughts I’ve had on the Chinese economy – I’d appreciate feedback:
The World Bank recently released a quarterly review on China, http://siteresources.worldbank.org/INTCHINA/Resources/Quarterly_December_2008.pdf, covering a number of topics. One chart (fig.14) which struck my eye showed China in 2007 as having the heaviest economic exposure to investment and industry in modern history, far outpacing early modern Japan and Korea.
Consumption has actually been strong over the past seven years in China. Real retail sales has grown between 10 to 20% annually. I don’t think there’s a country in the world that has seen retail sales grow that fast over the last decade. And I seriously doubt that Chinese people thus need lectures from foreign economists telling them to “go consume more”.
Despite the rapid growth in consumer spending signaled above, we see that consumption has been steadily shrinking as a percent of the economy over this time frame:
How can this happen? A massive flood of fixed asset investment, much of it going into plants, office buildings, property, highways, ports, power plants, etc.
So real growth in retail sales was 10 – 20%. Real fixed asset investment grew at about a 15% to 35% annualized pace:
With returns on new asset investment becoming increasingly low in China (witness the anecdotes of residential and office properties earning 2-3% gross rental yields), it’s pretty obvious that it’s the investment growth that needs to correct downward over coming years, not consumption growth that particularly needs to (or can) accelerate. Weak final demand means private individuals will have less, not greater desire to invest in assets or capacity.
But the WB reviews the PRC government’s 10-point stimulus program, and as I read it, the government is still primarily focused on countering this recent slowdown in asset investment, with more asset investment.
But this asset investment is apparently mostly going to be paid for by the same channels that have been funding it previously, Banks and more importantly, regional governments. So there doesn’t seem to be any really new money or motivation behind the asset investment, that has already been growing at breakneck speed. Previously, they invested because they wanted to. Now they will continue to grow because they are being told to?
It just doesn’t make sense to me how this can last.
This past asset investment has driven huge growth in consumption of steel, cement and other raw materials, making it an economy which more than any economy in recent history, was about building new stuff. The government must hope they can keep investment stable at 2008 levels. (Consensus steel forecasts for 2009 are now assuming virtually flat steel consumption in China, meaning that China alone will NOT see a decline in demand for steel globally). Thus they assume that the government will be able to prop up investment by steering it into non-entrepreneurial based channels.
In 2001, China consumed about the same amount of steel as Europe. In 2008, China consumed the same amount of steel as Europe, North and South America, and the Middle East, combined. About 75% goes to construction, i.e. fixed asset investment. Perhaps 25% goes to residential construction, 30% nonresidential, and 16% to other construction.
Yet in the forecast Credit Suisse and Worldsteel recently provided, Chinese steel demand will continue to grow in coming years.
I think the market senses that these trends must begin reversing, possibly sharply. The Chinese government cannot change the laws of economics, and turn the country into an even larger construction project than it has been, at least not indefinitely.
“i watched this over the weekend, was interesting.
http://video.google.com/videoplay?docid=-515319560256183936”
This is a conspiracy video that agitates against the Federal Reserve. Hocus pocus, not helpful at all.
Yesterday’s Bloomberg posted this piece about selling problems at one of China’s largest department store chains:
Parkson Retail Group Ltd., the Beijing-based department store chain, fell the most in a year on the Hong Kong stock exchange as China sales growth slowed.
The group yesterday said fourth-quarter growth in Chinese stores open at least 12 months cooled to between 7 percent and 8 percent, compared with a 12 percent rise for the year. Parkson cited the slowing trading environment in China, where it runs 40 stores. Recessions around the globe are cutting demand for Chinese products, prompting job cuts and factory closures.
“The result is a lot worse than expected,” Keith Li, a retail analyst at CIMB-GK Securities (HK) Ltd., said by phone from Hong Kong. “We will see growth momentum slow down for more retailers in China.”