Throughout the steep recession in the United States that has since spread to the rest of the world one common ray of hope was China. China’s GDP had been growing at a brisk 12 percent per year, and as its population prospered into a middle class lifestyle, demand for foreign, especially U.S., goods and services exploded. This demand, in part, bolstered the boom in commodities that ended last Summer in classic bubble-bursting fashion. Still, commodities were expected to bounce back quickly because the Chinese economic engine was humming along despite the financial crisis. That is no longer the case, and the consequences for economic recovery in the U.S. and elsewhere are dire.
China in Decline
On January 22, 2009, China reported its GDP for the fourth quarter of 2008. The following is a recap of the information the country provided, courtesy of RGE Monitor:
China’s real GDP growth slowed to 6.8% in Q4 y/y, the slowest in seven years and a sharp slowing from 9% in Q3 as Chinese exports and manufacturing contracted and investments slowed. Chinese growth has been decelerating for six consecutive quarters and is unlikely to grow more than 4-5% y/y in 2009 as global demand for Chinese goods continues to be weak, investment continues to slow (despite government spending) and domestic demand weakens from job losses, negative wealth effect from equity and property market losses (RGE)
On a quarter on quarter basis Chinese output was negative (an estimated -0.3% annualized- Citi), the first quarterly contraction in 16 years and a number consistent with the plunge in electricity output which is often used by economists as a proxy for growth. Indicators suggest Chinese growth will continue to contract o n a q/q basis again in Q109 despite a possible stabilization as inventories are worn off. Exports have fallen to a year-on-year growth rate of 2%-3%, Manufacturing (40% of GDP) has been in contraction since August, FDI and fixed asset investment have been on a slowing trend.
Estimates for 2009 growth are being rapidly revised down to a 5-7% range from 13% in 2007 and 9% for all of 2008. The IMF suggested it could halve to 5%. Others suggest that negative growth is not out of the question.
While 6.8 percent growth may seem like good news, for an emerging market like China, it is not. With approximately 24 million workers entering the market each year, China needs a minimum growth rate of 9-10 percent to provide jobs to those workers. Thus, a 6.8 percent growth rate will feel like a recession to China, and if it’s growth rate continues to fall, China will experience a recession in real terms as well. Anyone interested in more on this subject should read Nouriel Roubini’s article here.
A Chinese recession will be devastating to the U.S. as it tries to scratch its way out of a deep recession (if not a depression – not the Great Depression, but a standard, textbook definition depression). Prices of commodities will continue to slide, the U.S. will not have a strong trading partner in China upon which it can lean for economic activity, and the U.S. may find itself without one of the largest buyers of its debt, in the form of U.S. Treasuries.
As of November 2008, China held approximately $682 billion of U.S. Treasury securities. That is 22 percent of total foreign ownership of U.S. Treasuries, making China the largest foreign holder of U.S. debt. With the total U.S. public debt running to approximately $10.6 trillion, China holds roughly 6-7 percent of the total in the form of U.S. Treasuries.
The job of turning around the U.S. economy just became much more difficult.
Investing Implications
There is no reason to be in equities for the intermediate- or long- term. The S&P 500 will most likely drop to 700, and it may fall far below that to 600, or as some have predicted, 500. Regardless of what the ultimate low is, no one should be invested heavily in equities for the time being.
On the fixed-income side, one should beware U.S. Treasuries for two reasons: (1) they are overbought, and that has driven yields to zero or near-zero; and (2) if demand slacks as China and other countries stop buying U.S. debt, prices on Treasuries will crash.
Treasury Inflation-Protected Securities (TIPS) are very attractive right now because the new issues are pricing in very low to no inflation. While the U.S. will likely experience very low inflation or possibly some deflation in the next year to two, over a ten-year period inflation is almost certain to return as the monetary policy and stimulus packages will reignite the economy and inflation someday.
Highly rated investment-grade corporate bonds are also a safe place to put one’s money to work, but only highly-rated debt, and one should be sure that the company has low debt and reasonable growth prospects.
China’s Economic Decline Devastating to U.S., World
Posted by greggkilloren on January 23, 2009
Throughout the steep recession in the United States that has since spread to the rest of the world one common ray of hope was China. China’s GDP had been growing at a brisk 12 percent per year, and as its population prospered into a middle class lifestyle, demand for foreign, especially U.S., goods and services exploded. This demand, in part, bolstered the boom in commodities that ended last Summer in classic bubble-bursting fashion. Still, commodities were expected to bounce back quickly because the Chinese economic engine was humming along despite the financial crisis. That is no longer the case, and the consequences for economic recovery in the U.S. and elsewhere are dire.
China in Decline
On January 22, 2009, China reported its GDP for the fourth quarter of 2008. The following is a recap of the information the country provided, courtesy of RGE Monitor:
While 6.8 percent growth may seem like good news, for an emerging market like China, it is not. With approximately 24 million workers entering the market each year, China needs a minimum growth rate of 9-10 percent to provide jobs to those workers. Thus, a 6.8 percent growth rate will feel like a recession to China, and if it’s growth rate continues to fall, China will experience a recession in real terms as well. Anyone interested in more on this subject should read Nouriel Roubini’s article here.
A Chinese recession will be devastating to the U.S. as it tries to scratch its way out of a deep recession (if not a depression – not the Great Depression, but a standard, textbook definition depression). Prices of commodities will continue to slide, the U.S. will not have a strong trading partner in China upon which it can lean for economic activity, and the U.S. may find itself without one of the largest buyers of its debt, in the form of U.S. Treasuries.
As of November 2008, China held approximately $682 billion of U.S. Treasury securities. That is 22 percent of total foreign ownership of U.S. Treasuries, making China the largest foreign holder of U.S. debt. With the total U.S. public debt running to approximately $10.6 trillion, China holds roughly 6-7 percent of the total in the form of U.S. Treasuries.
The job of turning around the U.S. economy just became much more difficult.
Investing Implications
There is no reason to be in equities for the intermediate- or long- term. The S&P 500 will most likely drop to 700, and it may fall far below that to 600, or as some have predicted, 500. Regardless of what the ultimate low is, no one should be invested heavily in equities for the time being.
On the fixed-income side, one should beware U.S. Treasuries for two reasons: (1) they are overbought, and that has driven yields to zero or near-zero; and (2) if demand slacks as China and other countries stop buying U.S. debt, prices on Treasuries will crash.
Treasury Inflation-Protected Securities (TIPS) are very attractive right now because the new issues are pricing in very low to no inflation. While the U.S. will likely experience very low inflation or possibly some deflation in the next year to two, over a ten-year period inflation is almost certain to return as the monetary policy and stimulus packages will reignite the economy and inflation someday.
Highly rated investment-grade corporate bonds are also a safe place to put one’s money to work, but only highly-rated debt, and one should be sure that the company has low debt and reasonable growth prospects.
Stay safe!
This entry was posted on January 23, 2009 at 8:08 am and is filed under Economy. Tagged: China, Credit Crisis, Economy, Market Commentary, Personal Finance. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.