Risks To China’s Economy in 2009 (CKGSB Part IV)

Before leaving China for the holidays, I had an opportunity to attend a discussion of China’s economy in 2009, sponsored by the Cheung Kong Graduate School of Business (CKGSB) in Beijing, featuring Jing Ulrich, managing director and chairman of China equities for J.P. Morgan, and Yijiang Wang, professor of economics and human resource management at CKGSB. In providing their views on China’s economic prospects in 2009, both panelists outlined the risks they believe lie ahead.

The biggest risk in 2009 by far, according to Prof. Wang, is rising unemployment and the social instability it may cause in China. Outbreaks of striking workers have already been in the news this year, and he is concerned there is more to come. In Unemployment and SMEs: Two Worries For 2009 (CKGSB Part III) MTD discussed Prof. Wang’s analysis of China’s labor situation and his concerns about rising unemployment in the country, so we won’t repeat them here.

However, Prof. Wang is not alone in worrying about this issue. The risk of social instability is also paramount in the minds of party and government officials. That is why China acted so quickly in announcing a massive stimulus package. The government wanted to reverse deteriorating psychology in the country–and to do it quickly–so that private consumption, along with increased government spending, has a chance to offset what the government expects the economy will lose in exports. In addition to the size of the stimulus package, officials in China received clear instructions to implement spending measures quickly. The head of a large state-owned company told me his company had received funding for several projects, but was told that spending had to begin within two weeks, or the funding would be withdrawn.

Apart from the risk of social instability, Jing identified four major risks going forward:

  • Earnings Weakness: Earnings will be weak through the first half of 2009. The combined impact of the economic slowdown and high operating leverage in key industries has increased the number of loss-making companies in China. Moreover, 22 percent of all profits of A share companies last year were due to gains from stock and property investments. Investment losses are obviously now more prevalent. Therefore, the stock market will have to look past earnings weakness to any underlying signs of a recovering economy in order to regain ground.
  • Accounts Receivable and Default Risk: Falling profits and cash flows, as well as collateralized loans being called in by nervous lenders due to shrinking asset prices are hurting companies balance sheets, and so called “triangular debt” is re-emerging as an issue. Companies facing liquidity issues are, in turn, trying to shift their burden to trading partners. Jing reported that Beijing Capital International Airport, for example, was owed more than 800 million yuan by China’s struggling airlines at the end of October. Telecommunications companies are reportedly delaying payments to their suppliers. If this practice becomes more widespread, the solvency of companies impacted by the credit crunch could be threatened.
  • Competition for Bank Loans: Although China has lowered interest rates and increased available credit, new bank loans are likely to favor large state-owned companies and infrastructure projects. Small and medium sized enterprises (SMEs) in China have historically had trouble obtaining bank financing, and this situation is likely to continue into 2009. This strikes right at the heart of Prof Wang’s concerns about China’s lack of support for the country’s SMEs. As in many countries, SMEs account for the bulk of employment in China.
  • Implementation Risk: Implementing such large infrastructure projects and spending initiatives carries risks of its own. Considerable financing issues are raised, as well as the practical issues of finding enough skilled workers, project managers and building materials. The construction of modern, high speed railways, for example, which represent a high percentage of the planned spending, requires highly skilled workers and managers. The hasty implementation of a large number of projects across the country also raises the risks that imprudent and duplicative investments will be made.

Central banks the world over have reacted to the global financial crisis with heavy doses of monetary stimulus, while China has led the way with fiscal stimulus. As the new U.S. president prepares to take office, it appears that the Obama administration will follow suit with a large fiscal stimulus package of its own. Whether these measures will have the desired results, China and the world will just have to wait and see. 2009 promises to be a very pivotal year for the global economy.

No comments yet... Be the first to leave a reply!