Debt Crisis

from: MSN finances

author: Olivier Wurlod

translation: doxa-louise

AN OCEAN OF CHINESE DEBT THREATENS THE WORLD ECONOMY

Does the recent explosion in Chinese indebtedness pose a threat to the world

economy?

‘Debt Crisis’. For many years, the expression has been in use in Europe and elsewhere.

Most often, with a direct allusion to Greece, considered  the deliquent from the euro zone. It is also invoked to describe the American situation, which goes from one shutdown threat (paralysed administration from a lack of a bufget accord) to the next.

Its applicability to China, however, is less obvious. It is justified, however, by the level of indebtedness in the country. According to a McKinsey report, out this year, the total Chinese debt (private and public) has reached 29’000 billion dollars as of June 2014, thus 283% of its Gross domestic Product (GDP). In compariosn, the United States, known for decades as the king of credit, are at 269% of their GDP.

  

DEBT GROWING TOO RAPIDLY

What is most troubling about the Chinese debt is not the amount, because rapid growth and augmentation of overdrafts are linked, but the speed with which the country’s debt has grown in the last six years. «The heart of he problem is that the growth rate of the debt has become greater then that of nominal economic growth, explains Fabrizio Quirighetti, Chief economist for the Syz Bank. In real terms, this means that China is endebting itself more quickly than it is enriching itself».

According to a report from the Banque BNP Paribas, the popular model enjoyed in the Middle empire in the last three decades has reached its limits. «Making a parallel from our own situation, let us say that the country is now leaving its own Thirty Glorious Years of Growth and is getting ready to face the same problems as developed economies: unemployement, slow growth, massive debt, etc.», claims Fabrizio Quirighetti. «Growth will speeply decline, and the vibrant years of past decades are part of the past», confirms Jean-Pierre Lehmann, specialist in political economy and professor at the IMD (International Institute for Management Developement) in Lausanne.

UNDERLYING CAUSES

Two factors are at the origin of this descent into a spiral of debt. The first is events in 2009. To counterbalance the world ecenomic crisis after the bankrupcy of Lehman Brothers and the fall of its own GDP, Peking put together a vast plan to sustain the economy. Thus, to come in aid of enterprises and local economies, China turns to printing money. In 2009 alone, the Chinese money supply increased by 30%.

Subsequently, while the world economy slowly came back from the Lehman Brothers choc, the Central Bank finally tightens its monetary policy. In order to avoid seeing a slowdown in bank credits, the Banks then go around the problem by creating a parallel financial system. «They exploited the weaknesses of the banking rules to transfer certain debts outside of their books and propose alternative financing products. These practices, called in China ‘shadow banking’, then developed as quickly as they are more lucrative and less controlled than commercial credit», explains Christine Peltier, analyst with Banque BNP Paribas. According to Standard and Poors, this alternative system of access to credit has experienced a growth of about 34% in China these last years, to reach 4500 billion dollars (against 75’000 billion worldwide).

Enough to artificially maintain Chinese growth these last years and result in the excesses which have led to the creation of a Real estate bubble. «In China, a great part of investments serve to build empty buildings, empty airports and autoroutes, useless factories», explained to Libération the American economist Michael Pettis. Some specialists foresee a coming bursting of what they consider «one of the greatest Real estate bubbles of modern economic history». Of note, when these latter burst ordeflate quickly, this never happens without some collateral damage ...social, for one, with cascading bankrupcies and an explosion of unemployment.

DRAMATIC CONSEQUENCES?

To us to understand how such a potential crisis from the Chinese debt will or not impact developed economies. If some specialists consider the situation to be ‘out of control’ and that a Chinese crisis will be more devastating than the 2008 financhial crash of 2008 in the United States was, others are less pessimistic. «Knowing that China imports and consumes few american and European products (except in the luxury sector), I would prefer to face an economic crisis in the Middle Empire rather than a new financial meltdown from the United Staes», opines Fabizio Quirighetti.

According to BNP Paribas, while excessive debt results for three quarters of the cases in a major banking crisis, China should avoid this scenario. «The risk for a ‘systemic crisis’,prolonged and covering the entire financial sphere is much lessened by the abundance of liquidity (debt financing is occuring in a ‘closed system’) and the health of macroeconomic fundamentals (positive external trade, good financial health of the central government)», reads the conclusion of the bank report.

In opposition to Europe, which pursues belt tightening, Peking is going in the other direction. «There will be no austerity policy in China», tells us Jean-Pierre lehmann. In an effort to counter three years of slowing growth (expected at 7% in 2015) and to intensify local consumption, the chinese government is actively pursuing the risk of continuing wiht overdrafts. In the past few months, the Cdntrl Bank has injected tens of billions in the economy. it has also been using the classical tools of stimulation with lower interest rates and lower rates of stipulated reserves for banks.