Thursday, May 5, 2011

A China Update

The Chinese government is rightly concerned with the rising level of prices within their economy. (Some here blame China’s problems on our own Federal Reserve System. While the economic actions of our governmental bodies certainly add to the economic problems in the world outside our own borders, we should not underestimate the ability of nearly all other governments to make decisions as bad or worse. China’s problems are mostly of their own making.) China has certainly been creating new made-up money with gusto. And don’t forget that the banking sector in China consists of (at least mostly) banks owned and controlled by the government. The Chinese equivalent of the Fed is aware that domestic prices are rising faster than is good for the economy (as if any consumer price inflation is good for anyone). They are now trying to slow the price rises and not bring their real growth to an end. It is going to be difficult, especially since they are using the same tactics that the Fed would use in the U.S.

To slow things down the Chinese government has been trying to reduce the growth in bank lending. They are not only using interest rates but are also trying to take cash out of the system. Their problem is that there is just too much cash running around. They will have to tighten up a bunch more to have sufficient impact, and that might, probably, increase interest rates sufficiently to reduce growth. When interest rates start up, they will then begin attracting money from other sources, which will not help their situation. That attraction will mean that other borrowers will have to compete and raise interest rates, maybe the U.S. will, also. Most countries are deathly afraid of rising interest rates. Higher rates are associated with slowing growth. This is just the opposite from actual economics. In a free economy, higher interest rates would signal that there was significant demand for capital. Higher interest rates would attract more savings and the rates would tend to do down. In this world controlled by central bankers and based upon fantasy economics, the supply of funds to loan is controlled by governments, and the supply is unlimited (and worthless, ultimately). Higher rates means that the governments are trying to slow the rise of prices and the fears of “overheated” economies, read worsening price inflation.

China’s problems are worse, however. According to one report, the real estate price boom has been raging. It said that prices for condos in the big cities has risen by over 50% in the last two years. 50%!!! One city has passed a law restricting the people who may buy these properties: not people from out of town nor speculators (plus a few other types). Real estate in China has reached the extremes of a boom market. It will reach a point, and I would think soon, that the last buyer will have bought (this is even more likely since many potential buyers are forbidden to purchase!). When that last buyer buys, the market will begin to fall, just like it did in the U.S. a few years ago. The fall will wipe out a lot of apparent value (paper profits) and will have significant, adverse consequences for the fake Chinese banking sector (fake because the banks are hardly real, independent actual banks). It will be interesting to see what happens. It certainly will be difficult for any company doing business in China. It will be difficult for Asia, coming on top of the Japanese losses due to its natural disaster (natural vs. man-made in China). It will be difficult for the BRICS, as tied together as they are. It will be difficult for Europe and North America, as dependent as we are for Chinese products. Maybe China will realize that a currency valued openly has some merit?

Whatever the actual results, what matters is how people understand the causes of the Chinese mess. More than likely, many people will point to the apparent greater amount of freedom the Chinese have had, i.e., the more their economy appeared to be capitalistic. They will ignore the degree of control the Chinese government continued to have, especially within the banking sector. Some may point to the currency controls the Chinese had, but many will also blame the Fed (not that it is bad to heap blame on the Fed – just be accurate). It is important that the proper cause be identified. We are the only ones who can do it.

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