China's crash is unlikely to hurt the global economy (much)
There are some vulnerabilities, but the good will mostly balance out the bad.
(Note: The slight hiatus in posting was because I’m moving to a new place! I’m going up to live in the neighborhood affectionately known as Cerebral Valley, where many of my friends have moved in recent months. I’ll eventually write a post about the neighborhood, including places to go and things to do.)
Once, about eight years ago, I did one of those macro research notes — basically, a very long blog post filled with charts and little data facts to support a bold macroeconomic thesis, which gets read by bankers and asset managers and whoever else subscribes to the services that put out notes like that. The topic was whether a “hard landing” in China would hurt the U.S. economy. I argued that it would not. In fact, we never got to find out whether I was right, since China’s economy ended up avoiding a hard landing. (I really don’t like the macro research note format, so that was the only one I ever did.)
Well, that was then, and this is now. The number of people who think China will avoid a “hard landing” has shrunk to the point where you basically don’t even see them quoted in the news anymore. China may report positive growth numbers for the next few quarters, but given their increase in secrecy and all the negative news coming out of the country, it’s highly likely that those numbers will be…er…massaged.
Just to recap, China is in the grip of an economic crisis driven by a real estate crash. Another big developer, Country Garden, looks like it’s going to default, which is making people worry about other developers like Gemdale and Seazen and Longfor and China Vanke and a bunch of other giant, important Chinese real estate companies you’ve probably never heard of. The safe bet at this point is that most or all of these big developers are financially insolvent and will default unless there’s a central government bailout, which there probably eventually will be. Meanwhile, a lot of shadow banks had specialized in selling various real-estate-backed bonds to various people, and some of those are starting to collapse as well. Again, it’s probably safe to assume these companies are also insolvent unless and until they get bailed out.
Meanwhile, housing prices are falling. Officially they’re only down 2.4% for new houses and 6% for existing houses year-over-year, but in many cities it’s more like 15-25%. And that’s with plunging sales volumes — most people aren’t selling because they’re afraid to take a loss. If and when they do, prices will probably fall more, and everyone knows that. Lower prices put more pressure on real estate companies, and also on local governments, which will also likely need a central government bailout.
All this carnage in the real estate sector will weigh on the rest of the economy; not only is real estate an enormous percent of China’s economy, but a weak financial system also means less lending everywhere. Already China is slipping into deflation, and its currency has fallen to record lows against the dollar, exports and imports are collapsing, etc. This is an economy that’s in recession. And although the Chinese government is cutting interest rates, it doesn’t seem very interested in deploying large-scale fiscal stimulus, especially given the CCP’s aversion to boosting household consumption.
(Man, just going through the latest negative news out of China is like writing a whole blog post in itself…Just follow Rebecca Choong Wilkins and read Bloomberg for breaking coverage!)
So anyway, the next question on people’s minds is, with China’s economy sick, does that mean the rest of the world is going to catch a proverbial cold? Some people think so, but honestly, I doubt it; in fact, the case for optimism is stronger now than what I wrote in that research note way eight years ago. Though developed countries have become a bit more dependent on China since 2015, the return of inflation means that the macroeconomic benefits of a Chinese slowdown will mostly or entirely cancel out any financial contagion.
The bad: Financial contagion spreading to Europe (and maybe America)
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