Yet there are strong indications that China stands in a fully developed stage of bubbledom, of which there are many symptoms. In commercial real estate, as Jim Chanos and Hugh Hendry have emphasized, there are lots of developments that have no income stream. The disparity between average incomes and real estate prices are in excess of those prevailing in Japan before 1989 (a point examined by Edward Chancellor in reports for GMO) If the Chinese investment boom is followed by a big bust, it will profoundly affect both prices and perceptions. Falling prices would also ease perceptions of future scarcity and would, at least in the medium term, greatly affect the pace of mining and agricultural activity (together with their respective environmental impacts).
These two phenomena--looming resource scarcity, China's bubble--point in very different directions. One suggests a continuing boom in the consumption of natural resources, the other points toward a bust. I have to say that I credit the power of both of these forces, even though they point in contradictory directions. Though I would certainly like to know how this epic battle will play out over the next several years, the more important point for our purposes is simply that they are in play against the other, and that we should watch that saga like a hawk.
The materials sector--the demand for things like copper, cement, iron ore, steel--would probably be more affected than the energy sector by Chinese troubles, but both would be affected. Over a longer time horizon--say, over the next three to seven years--growth in the rest of the developing world seems likely to moderate the effect of a Chinese financial bust, but, in the short term, mayhem in the commodities markets may ensue if China begins to slow. In the background of commodity speculation today is the memory of 2008, with its spectacular boom and bust in one year. It is not implausible to worry that markets might undertake a repeat performance.
Here's a recent analysis from Buttonwood at the Economist summarizing the latest (mixed) research on China's "staggering non-performing loan problem."
Commerzbank tackles the issue of the property market in a note out today. In Beijing, the price-to-income ratio of the average home is 36; that compares with 18 in Singapore, 12 in New York and just 5 in Frankfurt. By itself, this isn't a reason to be immediately bearish. A high price-to-income ratio implies a belief that incomes will rise quickly and in China they are likely to do so; much harder to justify a high price-to-income ratio in London. Relative to GDP, Chinese house prices are not out of line with the last decade and of course, GDP is still growing very fast.
Bubbles are also marked by speculative building. Chinese residential investment is around 8% of GDP, compared with a ratio of 5.8% for Japan in the 1980s. then again, China is modernising very rapidly so a degree of new build is to be expected. Commerzbank analyst Ashley Davies concludes that
The property market is not a true bubble in the style that Japan was in the late 1980s but is definitely guilty of exuberance.
Nouriel Roubini issued a broader note on the issue earlier this month. He argued that
No country can be productive enough to reinvest 50% of GDP in new capital stock without eventually facing immense overcapacity and a staggering non-performing loan problem. China is rife with overinvestment in physical capital, infrastructure and property. To a visitor, this is evident in sleek but empty airports and bullet trains, highways to nowhere, thousands of colossal new central and provincial government buildings, ghost towns and brand new aluminium smelters kept closed to prevent global prices from plunging.
The problem may not kick in until 2013, Mr Roubini thinks, saying the country will then suffer a hard landing. He adds that
All historical episodes of excessive investment - including East Asia in the 1990s - have ended with a financial crisis and/or a long period of slow growth.