domingo, enero 26, 2014



China’s economy

In three parts

Some Chinese economic indicators are moving in the right direction; others are not

Jan 25th 2014


CHINA’S economy, worth over $9 trillion in 2013, divides opinion. Often it divides it neatly in two: optimists contend with pessimists, apologists with alarmists, bulls with bears. Figures released this month encouraged both camps. China’s economy grew by 7.7% in 2013, a little faster than once feared. But a widely watched index of manufacturing, published by HSBC, a bank, fell for the fourth month in a row.

This binary split in opinion is too crude. To understand China’s economy today, it is more helpful to think in threes. Start, for example, with three forms of growth: in supply, demand and credit. Over the long run, China’s economic might depends on the size of its workforce and its productivity. This combination determines how much stuff China can supply without overstretching itself. Numbers released this week confirm that the supply-side limits on growth are gradually tightening.

The country’s urban workforce, which produces most of its output, is growing more slowly. The age group from which this workforce springs is now shrinking outright. The population of working age shrank by 2.44m in 2013, having already fallen by several million the year before.

This demographic turning-point (dubbed “peak toil”) has contributed to a marked slowdown in China’s potential rate of growth from the double-digit tempo of yesteryear. Whether the economy actually fulfils that (diminished) potential depends on a second kind of growth: that of demand. On the one hand, too little spending on goods and services will result in the underemployment of even a shrinking population (witness Japan). On the other hand, too much results in inflation.

By that yardstick, demand in China is still modest. It was enough to increase GDP by just over the government’s minimum threshold of 7.5%. But the economy did not grow fast enough to generate any inflationary pressure. Consumer prices rose by only 2.5% in the year to December. Prices paid to producers fell, for the 22nd month in a row. The Chinese economy is not overheating in any conventional sense.

China’s excesses take a different form. It is not the growth in demand that worries pessimists, but the growth in credit. The stock of outstanding financing for the private sector grew by about 20% last year, according to the central bank’s broad measure (which includes corporate bonds, equity issuance, and a variety of loans by banks and other lenders) even as nominal GDP grew by only 9.5% (see chart). Some of those loans are now turning ugly.

One credit product, sold exclusively through ICBC, China’s biggest bank, on behalf of China Credit Trust, a non-bank lender, is poised to default at the end of this month. It raised 3 billion yuan (over $490m) for Zhenfu Energy group, an ill-fated coal-mining venture, the vice-chairman of which was arrested for taking deposits without a licence. Zhenfu cannot repay its debts. The big question that remains is whether the product’s buyers, sellers or issuers will bear the loss.

China’s credit is not all this bad. And even the bad lending is not all bad in the same way. In fact credit, too, can usefully be divided into three categories, according to how it is spent, argues Richard Werner of Southampton University. Some is spent fruitfully, on new capital and infrastructure, increasing the economy’s productive capacity. Because lending of this kind adds to both demand and supply, it should result in higher economic growth without higher inflation.

Another chunk of credit is spent wastefully, either on consumption or on misconceived projects, such as bridges without destinations or coal mines without markets. These loans add nothing to the economy’s productive capacity, but they do add to demand. They make a claim on the economy’s goods and services, without adding anything to its ability to provide them. Credit of this second kind should, then, result in higher inflation, increasing nominal GDP but not real GDP.

The surprising lack of inflation suggests that much of China’s credit is instead of a third kind. It is spent speculatively, on existing assets, real or financial, in the hope they will rise in value. Because these assets already exist, they can be purchased (and repurchased) without adding directly to GDP or straining the economy’s capacity to produce new goods and services. Credit and asset prices can chase each other higher, even as consumer prices remain flat.

Because this third kind of credit adds little to economic growth, curbing it need not, in principle, subtract much from growth. China’s financial authorities have repeatedly stated their desire to shrink overstretched balance-sheets, especially among mid-tier banks, without discouraging the flow of credit to the “real economy”. But although this is entirely feasible in principle, it is a difficult trick to pull off in practice.

Pessimists argue that the government’s efforts to curb leverage will stymie growth this year. But these rigours should be offset by stronger exports and consumer spending, both of which have plenty of room for improvement. Foreign trade subtracted from China’s growth last year. Consumption, which made the biggest contribution to growth in 2012 and 2011, was once again overshadowed last year by China’s traditional engine of demand, investment.

China’s dependence on investment remains a worry. But although its pattern of spending showed little sign of rebalancing last year, it did at least enjoy a rebalancing of incomes and production. Both migrant workers and rural households saw their incomes grow faster than the economy as a whole. Four years ago, the disposable income of the average urbanite was 3.3 times that of his rural counterpart. That ratio has now fallen to 3.0.

Of greater historical resonance was the shift in production. Last year China’s output of services, which contributed 46% of GDP, finally eclipsed the output of its industry (44%). An economy based predominantly on making things for people now gets more out of doing things for them. Indeed, China’s fastest-growing sector last year was wholesaling and retailing, which expanded at a double-digit rate. In the workshop of the world, growing numbers now work in shops. Services are known as “the tertiary sector” (whereas agriculture is “primary” and industrysecondary”). It is this long neglected third piece of China’s economy that will prove the optimists right in 2014.

domingo, enero 26, 2014




China loses its allure

Life is getting tougher for foreign companies. Those that want to stay will have to adjust

Jan 25th 2014


ACCORDING to the late Roberto Goizueta, a former boss of The Coca-Cola Company, April 15th 1981 was “one of the most important days in the history of the world.” That date marked the opening of the first Coke bottling plant to be built in China since the Communist revolution.

The claim was over the top, but not absurd. Mao Zedong’s disastrous policies had left the economy in tatters. The height of popular aspiration was the “four things that go round”: bicycles, sewing machines, fans and watches. The welcome that Deng Xiaoping, China’s then leader, gave to foreign firms was part of a series of changes that turned China into one of the biggest and fastest-growing markets in the world.

For the past three decades, multinationals have poured in. After the financial crisis, many companies looked to China for salvation. Now it looks as though the gold rush may be over.

More pain, less gain

In some ways, China’s market is still the world’s most enticing. Although it accounts for only around 8% of private consumption in the world, it contributed more than any other country to the growth of consumption in 2011-13. Firms like GM and Apple have made fat profits there.

But for many foreign companies, things are getting harder. That is partly because growth is flagging (see article), while costs are rising. Talented young workers are getting harder to find, and pay is soaring.

China’s government has always made life difficult for firms in some sectors—it has restricted market access for foreign banks and brokerage houses and blocked internet firms, including Facebook and Twitter—but the tough treatment seems to be spreading. Hardware firms such as Cisco, IBM and Qualcomm are facing a post-Snowden backlash; GlaxoSmithKline, a drugmaker, is ensnared in a corruption probe; Apple was forced into a humiliating apology last year for offering inadequate warranties; and Starbucks has been accused by state media of price-gouging. A sweeping consumer-protection law will come into force in March, possibly providing a fresh line of attack on multinationals. And the government’s crackdown on extravagant spending by officials is hitting the foreign firms that peddle luxuries.

Competition is heating up. China was already the world’s fiercest battleground for global brands but local firms, long laggards in quality, are joining the fray. Many now have overseas experience, and some are developing inventive products. Xiaomi and Huawei have come up with world-class smartphones, and Sany’s excellent diggers are taking on costlier ones made by Hitachi and Caterpillar. Consumers will no longer pay a hefty premium just because a brand is foreign. Their internet savvy and lack of brand loyalty makes them the world’s most demanding customers.

Some companies are leaving. Revlon said in December that it was pulling out altogether. L’Oréal, the world’s largest cosmetics firm, said soon afterwards that it would stop selling one of its main brands, Garnier. Best Buy, an American electronics retailer, and Media Markt, a German rival, have already left, as has Yahoo, an internet giant. Tesco, a British food retailer, last year gave up trying to go it alone, and entered a joint venture with a state-owned firm.

Some of those who are staying are struggling. IBM this week said that revenues in China fell by 23% during the last quarter of 2013. Rémy Cointreau, a French drinks group, reported that sales of its Rémy Martin cognac fell by more than 30% during the first three quarters of last year because of a plunge in China. Yum Brands, an American fast-food firm, said in September last year that same-store sales in China had fallen by 16% in the year to date. Its problems were partly the result of a government investigation into alleged illegal antibiotic use by its chicken suppliers.

Investors no longer celebrate firms with big investments in China. Our Sinodependency Index weights American multinationals by their China revenues. Sino-dependent firms used to outperform their peers, but in the past two years their share prices have done worse than others’.

As Jeffrey Immelt, the boss of GE, puts it, “China is big, but it is hard…[other] places are equally big, but they are not quite as hard.” Companies that want to stay in China will have to put in even more effort. Many will have to change strategy.

One China is over

First, rising costs mean that bosses must shift from going for growth to enhancing productivity. This sounds obvious, but in China the mentality has long beenjust throw more men at the problem”. One way to get a grip on costs is to invest in labour-substituting technology, not only in manufacturing but also in services. Also, multinationals are falling behind local firms like Alibaba and Tencent in exploiting a surge of big data coming from e-commerce and smartphones.

Second, tighter control is another must. GSK’s bosses in London admitted that its problems in China were partly the result of executives actingoutside of our processes and control”. Managers in headquarters must ensure that executives’ behaviour and safety standards are as high as anywhere else in the world. Chinese consumers are even more active on social media than those in the West, so any scandal is instantly broadcast nationally.

Lastly, a One China policy no longer makes sense. Most firms set up their local offices when China’s economy was smaller than $2 trillion. Although it will soon be five times that size, many still try to run their operations from Shanghai. That makes little sense when tastes in food, fashion and much else vary between provinces and mega-cities that have populations as big as European countries. Some 400m Chinese do not speak Mandarin. So even as CEOs need to keep a closer eye on standards and behaviour, they should localise marketing and perhaps product development.

China is still a rich prize. Firms that can boost productivity, improve governance and respond to local tastes can still prosper.

But the golden years are over.

January 24, 2014, 11:01 am
Updated, 9:20 p.m. 

Economic Shifts in U.S. and China Batter Markets


Jason Decrow/Associated PressTraders at the New York Stock Exchange on Friday.
The ascent of developing countries over the last decade has been fueled by two global trends: the steady rise of China and the willingness of the Federal Reserve to stimulate the economy.

Now, with both trends starting to retreat, investors have been heading for the exits in markets as far removed as Buenos Aires, Istanbul and Beijing, with effects spilling over into the rest of the world.

A decline this week picked up speed and spread around the globe on Friday, leading to the first sustained drop in United States stock indexes in 2014. The Standard & Poor’s 500-stock index fell 2.1 percent on Friday, to end its worst week since June 2012.

But the damage is expected to be worse in places that have relied on demand for raw resources in China, whose economic advance is slowing. An index of Chinese manufacturing growth released on Thursday showed that the most important cog in the country’s economy, the world’s second-largest, was contracting for the first time in six months

The Dow and emerging markets have dipped in the last 30 days.

The damage has been particularly severe in countries that are already suffering from political instability, like Turkey and Argentina. Turkey’s currency fell to a record low against the dollar on Friday, a drop that will hit the purchasing power of everyone in the country.

On a street corner in Istanbul, Yilmaz Gok, 51, said, “I’m a retiree making ends meet on a small pension and all I care about is a possible increase in prices.”

“I will need to cut further,” he said. Maybe I should use my natural gas heater less.”

The concerns about developing economies are being heightened by the Fed’s recent decision to begin pulling back on the bond-buying stimulus programs that have helped keep interest rates low around the world

Now, many countries that had come to rely on those low rates could face a surge in borrowing costs and a period of painful readjustment. Many emerging countries could also be hurt if investors choose to pull their money to chase returns in the recovering economies in the United States and Europe.

“A lot of these currencies are getting trashed and people’s standards of living are going down,” said Michael Purves, the chief global strategist at Weeden & Company. “There is a potential for social unrest to accelerate.”

The slump this week was the first serious break in a long stock market rally that took the broad United States stock market up nearly 30 percent last year, fueled by signs of an economic recovery. The extent of the rise had led many sophisticated investors to expect some kind of pullback in American stocks.

“This is a convenient and healthy short-term pullback,” said David Lafferty, the chief market strategist for Natixis Global Asset Management. “The market really needs some time to digest last year’s gains.”

In the rest of the world, the damage so far is less severe than it was during similar turmoil in emerging markets last summer, when the Fed first talked about easing its bond-buying programs. Most markets ended up bouncing back from that episode. But there is a growing recognition that the developing world will not be the engine of growth that it has been for much of the last decade.

In China, the economy is still growing faster than almost anywhere else, but the pace is slowing and the government is intent on developing an economy that is less intent on exporting goods. This is weighing on everything from the soybean industry in Brazil to the nickel mines of Mozambique.

For some countries, though, the recent problems have been relatively independent of China.

In Argentina, the government’s efforts to fend off inflation and artificially support the local currency backfired. This week, the government acknowledged the problem when it allowed the value of the peso to drop and made it easier to buy dollars, but that only spurred a greater sense of crisis. The peso finished the week down 16 percent. Many analysts have said that the government still has to deal with the fundamental problem of rampant inflation.

Some of the most drastic moves have been in Turkey, one of the largest emerging economies. On Friday, the Turkish lira was trading at 2.314 a dollar, creeping above 2.3 for the first time, after the central bank failed in its effort to control the slide.

Turkey had been one of many places where business magnates had used the Fed’s low interest rates to pay for a building boom. It is now unclear whether Turkish businesses will be able to pay off those loans if interest rates rise.

The country has also been plunged into political turmoil, which is hurting business confidence. In late December, Prime Minister Recep Tayyip Erdogan became entangled in a battle with the Gulen movement, a powerful pro-Islamic network and once a close ally of the government.

On Friday, Mr. Erdogan accused the country’s largest business group of treason after its chairman warned about a possible retreat of global investors if the government continued political moves that endangered the country’s democratic system. The business group had forecast that Turkey’s economy would grow 3.4 percent in 2014, as opposed to a government projection of 4 percent.

Because Turkey and many other emerging market economies rely on low interest rates, their fate will depend, in part, on the Fed’s future decisions about how to pull back on its bond-buying programs. In December, the Fed decided to cut back its monthly purchases for the first time, to $75 billion from $85 billion. Next week, the Fed is scheduled to meet and announce whether it will continue to reduce its bond purchases.

Emerging markets can’t seem to escape the shadow of the Federal Reserve,” Andrew Wilkinson, the chief market analyst at Interactive Brokers, wrote to clients on Friday.

Economists are carefully watching the United States for any signs that it is vulnerable to the weakness overseas or that the economic recovery is slowing independently. The most recent monthly employment report showed a sharp slowdown in job creation for the first time in months and data this week showed that home sales came in slightly lower than expected.

But the main American indexes are still within a few percent of their record highs. The S.&P. 500 ended Friday down 2.1 percent, or 38.17 points, at 1,790.29, bringing it down 3.1 percent for the year. The Dow Jones industrial average fell 2 percent, or 318.24 points, to 15,879.11. The Nasdaq composite index fell 2.2 percent, or 90.70 points, to 4,128.88.

United States, German and British bonds have been benefiting as investors seek them out as a refuge from the turmoil in riskier assets. The yield on the 10-year Treasury note fell to 2.72 percent, from 2.78 percent on Thursday, after hovering near 3 percent earlier this month.

An array of United States economic data has continued to point to an economic recovery that is gaining strength and could actually benefit if investors are looking for somewhere to put money that was previously in developing countries.

“There’s a part of this that actually strengthens the U.S.,” Mr. Purves said. “You may have a flight to the best house on the block.”

Reporting was contributed by Keith Bradsher in Hong Kong, Sebnem Arsu in Istanbul and Jonathan Gilbert in Buenos Aires..