Tuesday, December 4, 2007

The Coming China Crash

The coming China Crash
Many observers of the current US financial market downturn comfort themselves with the thought that the world now has more than one growth engine, and that China, with four times the US population, can because of its very high growth pull the world economy along sufficiently even when the US stalls. However, if China is about to incur the inevitable backlash from its recent debt and equity bubbles, during which practices have flourished that have no place in a well-functioning free market, then we may be entering a world in which the two main growth engines of the last decade are both broken. Growth in such a world will be truly sluggish and inflation high, as the world struggles to cope with the effects of an excess of cheap money now grown toxic.


In China, there can be no assurance whatever that a populace whose living standards have suddenly stopped improving will not turn to violent nationalism and/or counterproductive economics. Since the country is not a democracy and not likely to become one, the authorities are likely to react to hardship as did Vladimir Putin to the chaos of late 1990s Russia, imposing even more draconian repression and seeking a military adventure abroad to occupy the masses of disaffected youth and distract the public from its new poverty. That too would produce a future in the West far worse than would be cased by a mere domestic recession.

Bears who weary of observing the chaos in the US financial markets can cheer themselves up by looking at China. There will be more than one source of the oncoming world downturn!


walker said...

Thanks for not confusing me any further with discussions of the morthage "bailout", or whatever Paulson's calling it. I feel so much better now. Not.

Stagflationary Mark said...


The world is our oyster! Served on the half-shell!

(Extremely Fine Print: Left out in the hot sun for six hours before serving!)

The World Is Our Oyster
The outsourcing boom shows no sign of slowing.

Anonymous said...


Some more thoughts on your stagflation forecast. I'd sure like to know what the Chinese are doing with their U.S. Treasuries. From an investment point of view, the recent rally would have been a perfect time to sell. Think of it, selling to weak hands seeking safety due to fallout from the mortgage mess & credit crunch. Seems like a great time for Japan to lighten up too. If China and Japan have indeed lightened up on their treasury holdings, when the weak hands regain their confidence and try to sell, those late to the party will take a bath as demand will have shrunk rapidly. This will be interpreted by some as a change in inflation expectations and will further increase rates. Maybe the recent strengthening of the Yen wasn't due to investor's unwinding carry trades. Yen strength doesn't make sense given Japan's slowing growth. In any event, I think the American consumer will slow spending due a slowdown in MEW. This will lead to slowing imports from Asia and less treasury buying/recycling by China & Japan. Paradoxically, slower spending may increase U.S. interest rates. This all supports your stagflationary view. Cash may be king for a while or at least the best of bad options.

Stagflationary Mark said...


Warren Buffett had some interesting things to say about the flight out of the dollar. It can't play out as many expect.

Ultimately, dollars must be used to purchase something we have. You can't simply ditch them as a foreign investor. If you ditch them to another foreign investor then that new investor has the same problem you once had.

Therefore, eventually those dollars MUST buy something we have.

The most obvious choices are:

1. Stocks
2. Bonds
3. Real Estate
4. Goods and Services

It is therefore extremely unlikely that the price of all four of those things can simulateously drop. You will note that the first three of them do not cause inflation problems in the eyes of our government. It is only the last one that does. That's what makes me more stagflationary than most (as least as it relates to our future CPI).

I would argue that people knew they were earning a lousy rate of return in the 1970s. They were stuck though. There was really no alternative.

Just a thought.

Anonymous said...


I agree that the prices of all four are unlikely to fall in concert. However, if the prices of goods and services (low order capital goods) start to rise faster than expected, inflation expectations will be altered. Higher inflation expectations will cause higher interest rates (especially absent foreign gov't's with export agendas). Interest rates act like gravity on asset prices. Higher interest rates immediately decrease the value of future cash flows. Hence, stocks and bonds can be expected to perform poorly under inflationary conditions.

Real estate is a tougher call as it is more locally oriented and replacement costs increase with inflation.

Foreigners are notorious for making poor investments in the U.S. Just think of the Japanese. From what I've seen, only the Dutch, with their long term real estate investments, have faired well here. I expect that the massive treasury purchases by foreigners over the past decade will also turn out to be poor investments when all is said and done.

I cannot fathom why foreign gov'ts don't invest in their own futures. Just goes to show you how important a stable, capitalistic society and system of government really are.

Stagflationary Mark said...


I cannot fathom why foreign gov'ts don't invest in their own futures.

China thinks it is. Over a billion people need jobs so they've decided to become the manufacturing hub of the planet.

America has embraced their dream. The only problem is that we don't know what to give them in exchange for their goods. So far we seem to be giving them IOUs (dollars) mostly. Too bad the only problem is such a HUGE problem, both for us and them. Our IOUs simply aren't buying as much as they once were.

Just my opinion of course.

Anonymous said...

I have some limited experience with Chinese business people. Very hard working and well educated from my experience. Some of the things relayed to me gave me a real cause for concern though. That aside, I have a bad feeling their economy is unnecessarily skewed towards manufacturing and exports. I just think an investment in a social safety net or further investments in infrastructure or education would have been preferable to u.s. treasuries and excess manufacturing capacity. It scares me to think what will happen if that they get buried under unpayable debts like Japan.

Stagflationary Mark said...

Who knows what dark secrets are being kept hidden in the Chinese banking system. We can't even figure out what dark secrets are being kept in our relatively transparent American banking system.