Another side to this is not just Non-performing Loans, but also the drain on profits that debt obligations will cause in the coming years. If the loans have been used for productive profit generating investment, then similarly to your point about NPLs, this is by definition a price worth paying. I think some (including the CBRC and increasingly the PBOC) are worried that this is not the case.

Again I feel that investors should be cautious about relying on sell-side analysts – who are often tactical too.

As an aside, i would like to link to an article by Huang Yasheng. India V China debate aside, he makes some interesting points about “quality of growth issues” particularly Personal income growth to GDP growth ratios, and how this, along with other less economic factors (health, literacy) may have been showing reversals in China at points during the reform period.

http://www.foreignpolicy.com/story/cms.php?story_id=4345&page=1

Here is the question / answer session associated with the above story.

http://www.foreignpolicy.com/story/cms.php?story_id=4362

I actually read a lot of mainstream more importantly local newspapers and it’s definitely not wonderland. Here in Chongqing it’s all about the property boom but there’s literally daily stories filled with people who can’t afford or are being evicted along with throngs of ‘bongbong’ army out of work. It’s actually pretty depressing especially since Chongqing has largely avoided the crisis until now.

While these arguments have merit, you might be right for the wrong reasons. The problem is that we know very little about “asset prices” and bubbles. Hence, while you make logical arguments to “proof” that certain asset prices (the stockmarket, housing prices, commodities) are out of kilter — these arguments really don’t matter.
Paraphrasing Keyne’s (badly) — the market is a beauty contest. You don’t vote for the girl YOU think is the most beautiful –but for the one you think the “MARKET” thinks is the winner.
Hence, current macro policy is a huge confidence trick akin to a Ponzi scheme — to keep asset prices afloat to avoid the curse of debt deflation. This means that current massive fiscal and monetary stimulus is a huge government “put” for asset prices. BUT to avoid actually “paying” — a whole set of safeguards are de rigeur, hence the lofty speeches about “exit strategies”, medium-term fiscal triggers, better regulation, raising capital requirements and fears about inflation.
Given that “expectations” and animal spirits are driven by fear and greed — the “trick” is to calm fear while stoking greed in periods of huge financial stress, by implicit “puts” in asset markets. All of the above “hand wringing” and fears about future NPLs and money flowing into speculative asset prices may be misplaced as they were actually designed to avoid instantaneous “Ricardian equivalence”.
In sum, I give an A to the the FED, FDIC and Treasury “puts” and an A+ to the Chinese for their expert “manipulation” of stockmarket and housing prices since early March. This has perhaps bought them time for the fundamentals to kick in. But, if they don’t — then it is back to the drawing boards or rather the printing press for another round of “puts”, regards James

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ERODING FINANCES

Government revenues declined 2.4 percent in the first half compared to a year earlier, well shy of the official goal of an 8 percent rise. Expenditures were ahead of target and set to surge in the second half on the back of
infrastructure projects.

Tax intakes are, of course, closely tied to economic activity, so China’s upturn should deliver cash to government coffers. But improvement in June came mainly from land sales, a one-off revenue source that masks the difficult road ahead.

For related graphic, double-click on:
http://graphics.thomsonreuters.com/079/CN_IMPRVNT0709.jpg

“Even when we are already factoring in relatively optimistic revenue growth due to the economic recovery, the deficit is quite sticky at around 5 percent per year for the next three years,” said Isaac Meng, economist at BNP Paribas in Beijing.

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This article also has a good discussion of the “hidden debt” often discussed here. It included the following which I found especially interesting – would be grateful for further color from those familiar with this type of financial engineering.

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“DEBT BOMB”

Most troublesome of all is the potential for a “debt bomb”, in the words of China’s Economic Observer newspaper, at lower levels of government as officials engage in financial engineering that is both opaque and highly leveraged.

Rules prevent Chinese banks from lending to governments the equity capital which they need to obtain further loans for investment. But local officials and banks are now exploiting a vast loophole thanks to intermediaries known as
trust companies.

The process is simple enough. Trusts create specially designed “wealth products”, which banks sell to their clients. Banks then give the funds to the trusts and they, in turn, funnel them to governments as equity capital.

Local authorities, in short, are piling debt on top of debt. The Chinese banking regulator has started to warn trusts and banks of the growing risks, state media recently reported.

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Sounds a bit like the inclusion of AAA-rated securitized products in US/European bank capital, such that as banks made new loans, they simultaneously created the ‘capital’ required to support them. That’s worked out well.

All in all for H1, total revenues were down by 2.4%, with VAT down 3%, enterprise income tax down 13.8%, personal income tax up by 0.7%,customs duties down by 30%, and revenues from the stamp tax down by a whopping 74.5%.

This would appear to point towards a rebound in certain areas of the economy, but not so much in the external sector. The -2.4% overall y/y decline for H1 does not seem to be too far from what one might expect given the net impact of cyclical tax collections, that is compared to H1 2008.