China- Steady as she goes.
Hi Kemble:
Since you (as I) are an eternal optimist about DELL's future,particularly with respect to China, I thought this little job would help sustain your (and mine) enthusiasm.
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Source:Far Eastern Economic Review.
Steady As She Goes.
Well into the second year of Asia's economic crisis, doomsayers who predicted China would go the way of its sick neighbours may be wrong.
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By Trish Saywell in Shanghai
October 1, 1998
It's Saturday midnight but bright as day on construction sites stretching the length of Shanghai's debris-strewn Yanan Road. Under powerful lights, workers in rolled-up trousers, singlets hiked up around their chests, drill holes and shovel dirt, building the city's next elevated expressway. Across town, other construction crews toil into the early hours of Sunday building a new subway line to link the city centre with Pudong, the economic-development zone on the opposite side of the Huangpu River.
Scenes of economic energy like this are fast disappearing across Asia. But well into the second year of the region's economic crisis, China is showing surprising resilience. Indeed, some economists are revising their predictions about its performance. "The bottom line is even if growth is 4%, 6% or 8%, yes, it has slowed, but it isn't falling off the cliff as it is in other parts of the region," says Simon Ogus, chief economist at Warburg Dillon Read in Hong Kong. "So China stacks up relatively well."
It was only a little while ago that analysts were anxiously pointing out similarities between China and its sick neighbours. Insolvent banks, real-estate bubbles, sputtering demand, overcapacity and corruption, the argument went, put China in the same high-risk category as Indonesia, Thailand and South Korea. But now economists who see only worsening recession in those countries are becoming almost cheerful about China, particularly after August statistics were released.
By Beijing's reckoning, fixed-asset investment, value-added industrial growth and retail sales surged in August. A few economists even argue that China may be nearing the bottom of its cycle and could rebound in the fourth quarter. "The August numbers look good, showing domestic growth engines are running--perhaps faster than people had thought they would," says Dong Tao, a senior economist in Hong Kong at Credit Suisse First Boston.
Keeping China's engine humming is critical for the rest of Asia--and the world. A stable Chinese economy lessens the likelihood that the government will devalue the currency. Devaluation of the renminbi could trigger a vicious chain reaction of sinking currencies, deepening recession and asset deflation throughout Asia, Latin America and Eastern Europe. A stable China--the world's seventh-largest economy--also maintains confidence in Hong Kong, which the regional crisis is severely shaking.
Of course, China's problems remain enormous. As many as 150 million of its people are unemployed. There has been little or no increase this year in private domestic investment, which typically accounts for 30%-40% of total investment growth. Domestic demand is still weak--seen in deflation, poor corporate profits, high inventory levels and slowing import demand. And the banks are in miserable shape. Loans outstanding from all Chinese financial institutions surged nearly 40-fold from 1978 to 1997 to 7.5 trillion renminbi ($906 billion)--equal to China's current GDP. Nonperforming loans as a share of total loans at the four largest state-owned banks jumped to 25% at the end of 1997, up from 20% at the end of 1994.
Pump-priming the economy may keep China out of the region's intensive-care ward, but it does little to cure the chronic illness created by state intervention and directed lending. Nonetheless, it's a strategy that promises to achieve economic growth this year of 7.6%, just 0.4% shy of Premier Zhu Rongji's 8% target, according to Fred Hu, executive director of Asian economic research at Goldman Sachs in Hong Kong. "China's growth by and large will remain on track. And despite all the problems with the banks, the system isn't going to collapse overnight. The government is doing the right things," he says. "A lot of the fears are more psychological than real."
For starters, China's leaders recognize the reality and are trying to tackle the problems. They know the state-owned banks need a strong dose of bitter medicine, and they're starting to dish it out. On June 21, Beijing closed debt-laden Hainan Development Bank--the first bank to be shuttered since Communist China was founded in 1949. Days later Beijing brought the boom down on China Venturetech Investment, a trust and investment firm with close ties to the children of late Communist Party leaders Deng Xiaoping and Chen Yun. In February, the Finance Ministry announced a $32.5 billion special bond issue to raise capital for state-owned banks. The amount is still far below the $200 billion in bad loans soiling the four big state banks' books, but it makes China's commitment to financial health start to look serious.
Supervision over bank lending has been cinched tighter by a notch or two. Earlier this year the central bank ordered state banks to reduce their nonperforming loan ratios by 2-3 percentage points over the next five to seven years. That's not much relative to total nonperforming loans, but it's a step in the right direction. "The banks are quite cautious now about making loans," notes Shawn Xu, chief economist at Merrill Lynch in Hong Kong.
China's banks aren't collapsing as they are elsewhere in the region for a few simple reasons. First, China's relatively closed capital account and low foreign debt insulates its banks from the financial turmoil crippling other Asian banking sectors. Second, the central bank as lender of last resort can always rescue state banks. And third, China can afford to reflate its banking system because its fiscal deficit is less than 2% of GDP. "The banking system will collapse only if the state decides to bankrupt itself, which in my view is highly unlikely," quips Andrew Freris, managing director of Asia research at the Bank of America in Hong Kong.
China also stands apart because it has the political will and the wherewithal ($140 billion in foreign-exchange reserves) to resort to old-fashioned administrative measures like fiscal spending programmes to kickstart the economy. It doesn't have to borrow massively overseas as do South Korea, Indonesia and Thailand. And it can tap its huge pool of savings to invest in infrastructure. In August, the state's fixed-asset investment jumped 26.9% over the same month a year earlier, the biggest gain since May 1995. Value-added industrial output, meanwhile, grew a year-on-year 7.9%. (Figures for value-added industrial output don't include the cost of raw materials used in manufacturing. The figure is China's benchmark measure of industrial production.)
Hu of Goldman Sachs says most new fixed investment is flowing into infrastructure, with power generation, transport and telecoms likely to account for 30% of total investment. Agriculture and residential housing are also targeted for increased investment. Hu says very little of the new capital has gone into manufacturing and processing industries where market prospects are uncertain.
Of course, chunks of capital may be going into questionable projects--feeding bigger inventory and bad-loan problems down the line. Some economists question whether the infrastructure projects will yield an economic rate of return. Others point to fiscal spending on poorly constructed and unused roads and other ill-conceived schemes.
Nicholas Lardy, a specialist on the Chinese economy at the Brookings Institution in Washington, notes that much of the financing comes from bank lending. "The whole programme is disturbing since it represents a move away from commercializing the banking system and a return to policy lending," he says. "It will be highly inimical to their long-term stated objectives--even if it helps prop up the rate of growth in the short term."
Ogus of Warburg Dillon Read asks whether Beijing is "doing the classic Keynesian trick of digging a hole in the ground and filling it." But Hu counters: "This is exactly the time for the classical Keynesian policy to work, and China, unlike many of its neighbours, does not have to practise austerity." (In the 1930s, John Maynard Keynes argued that in times of depression, governments should step in with fiscal spending on public-works projects.)
Whatever the argument, the government clearly considers fixed-asset investment a means to rev the economy's engines. "It's not possible for all these projects to be good but it's a good trend," insists Zhang Shuguang, a researcher at the Chinese Academy of Social Sciences in Beijing. Half of the 894.3 billion renminbi spent in the year to August has gone into roads, railways, power plants and other infrastructure projects. And there's no question that China needs more infrastructure--its road density, for instance, is less than 11 kilometres per 100 square kilometres, compared with 41 kilometres in South Korea and 33 in Thailand.
At the end of the day, China's leaders can always revert to old-fashioned administrative edicts to get the economy into shape. Premier Zhu, for example, has given the provinces their target growth rates. The State Machine Building Industry Bureau, which ranks just below ministry level, on September 12 ordered price controls on cars and a range of machinery to halt deflation. The government also has enough money to placate laid-off workers and disgruntled pensioners.
Such moves keep the economy from deteriorating to a level where the government would be forced to take drastic measures, such as currency devaluation. Indeed, some economists now say that prophesies of a devaluation were misguided. Not only would a weaker renminbi make China's imports more expensive, but it could trigger a further round of competitive devaluations across the region. "If you look at most of China's financial-sector reforms, everything seems designed that China doesn't want the renminbi to tumble," argues Ogus. "If it had been in China's interests to devalue the renminbi, they would have done it already."
Finally, China has one major asset that distinguishes it from its competitors: A huge domestic market, which continues to draw foreign investment, albeit in reduced levels from Asia. In the first eight months of this year, actual FDI declined 1.5% year-on-year to $27.4 billion, while contracted foreign investment rose 6% to $31.7 billion.
However, the type of FDI flowing into China is shifting away from traditional Asian investors in Hong Kong and Taiwan to larger multinational corporations, argues Tao of Credit Suisse First Boston. Last year, 70% of foreign investment flows to China came from the rest of Asia. In the first four months of the year, the share in actual FDI by the biggest Asian investors fell, whereas actual FDI from the U.S., Britain, Germany, Canada and Australia rose to 35% of the total.
Despite the fall in the value of Asian currencies, China's labour costs also remain competitive regionally. Tao gives an example: Before the baht fell, workers in Thailand received wages equivalent to $217 a month. Although they earn just $130 now, it is still well above China's average wage of $56. The only exception is Indonesia, where wages were twice as much as China's before the crisis, but are now less than one-third of Chinese wages on average. But manufacturers like sporting-goods giant Nike say that while their Chinese workers are now 20% more expensive than Indonesians, they are three times more productive.
Just ask the migrant workers on Shanghai's Yanan Road, working overtime to complete the city's new expressways and subway lines. They may never have heard of Keynes, but they can thank him for their jobs.
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