MTD’s Predictions for the Year of the Dragon

English: The Nine Dragon Wall in the Beihai Pa...

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The Year of the Dragon is upon us, and it’s time to predict how the New Year will turn out. Here’s the way I see it.

Prediction #1: China’s economy will grow at 8.5 percent.

Having lived and worked in China for 20 years, and having some sense for how the country works, I view this prediction as a “gimme.” So much so, that I’m embarrassed to even include it on my list.

However, I have heard so many experts over the past few weeks matter-of-factly make doomsday predictions for China when discussing the country’s economic prospects for 2012 that I feel compelled to do so. According to them, everything from a “property bubble,” China’s policy “flip flops” when shifting from credit tightening to credit ease, the upcoming change in leadership and inflation are reasons for concern. Even well regarded economists like Nouriel Roubini of New York University worry that China’s growth could sink to 5 percent or less in 2013 or 2014.

Maybe I’m missing something, but it’s really not that complicated. With 6.5 million university graduates entering the work force every year, China needs to create 45 million urban jobs over the next five years — that’s about 10 million per year. China estimates that every one percent of annual growth of China’s economy equates to one million new jobs, so a growth rate of between 7 percent and 9 percent is essential to maintain stability.

Unlike any other country in the world, the Chinese government has almost full control of the monetary, fiscal and administrative levers that control its economy, and the government pulls on those levers based on purely economic, not political, considerations. As evidenced by the way in which China rapidly shifted from monetary and fiscal tightening to monetary and fiscal ease in October 2008 and successfully navigated the global financial crisis, the government has a good track record of manipulating those controls.

Moreover, China is becoming less dependent on export markets as its domestic economy continues to grow. In our post on the subject, we noted that in 2007, net exports accounted for 18 percent of 14.2 percent GDP growth, but in the first half of 2011, they contributed a negative 0.7 percent of 9.6 percent growth.

For all of these reasons, I am confident that China will grow between 8 and 9 percent in 2012, and I’ll take the midway point of 8.5 percent as my prediction. By the way, an 8.5 percent increase on today’s economy adds just as much to global GDP as a 9 percent increase did in 2011 on a $5.9 trillion economy.

Prediction #2: By the end of 2012, the words “property bubble” will no longer be in the vocabulary when discussing China’s economy.

Unlike the experience of many countries around the world, the fiscal and monetary policies that China implemented in response to the global economic crisis actually worked. In fact, they worked so well that property prices in China surged in 2009, and inflation began to be a problem in mid-2010.

This did not go unnoticed by the government. In the spring of 2010, China began restricting credit and raising interest rates and reserve requirements to stabilize rapidly rising property prices. When inflation reared its ugly head later that year, the government re-doubled its efforts. As a final measure, the government slapped housing purchase policy restrictions in 43 major Tier 1 and Tier 2 cities in early 2011. These restrictions included limits on the number of units that households can buy, curbs on purchases by non-residents and higher deposit requirements for home buyers.

As a result of all of these policies, inflation peaked in July and is now declining, and property prices have stabilized. China is now easing credit, setting the stage for further growth in the property markets in 2012. As we reported previously, some experts believe that China will also ease housing restrictions in 2012.

In the mid-1990s, many predicted that China was not one country but many countries, and that regional differences would eventually cause the country to break apart. Twenty years later, China is still one country. In the late 1990s, some called for the “coming collapse of China” due to a large amount of non-performing loans in bank portfolios. Instead, the credit ratings of two Chinese banks were recently upgraded at the same time that most banks in the West are being downgraded.

Today, the conventional wisdom is that China has a “property bubble” and that the bursting of this bubble will bring down the entire economy. Based on my on-the-ground view, property will not be the economic millstone around China’s neck that many predict. By the end of 2012, no one will be talking about it, just like no one now talks about China breaking up or its banks going bust.

Prediction #3: The Shanghai Stock Exchange Composite Index (“SSE”) will increase by 25 percent in 2012.

The SSE, which tracks the daily price performance of all A-shares and B-shares listed on the Shanghai Stock Exchange, reached its high of 6036 on October 17, 2007, and then declined precipitously to its low of 1720 on November 3, 2008 in the aftermath of the global economic crisis. After recovering to the 3500 level by mid 2009, the SSE has been flat to trending downward, closing at 2808 on December 31, 2010.

I blew this prediction last year by predicting that the SSE would increase by 25 percent to 3500 in 2011. Due to a variety of circumstances, the SSE, in fact, declined by 22 percent, ending the year at 2199.

Despite my cloudy crystal ball at the end of 2010, I’m going to try this one again. The impact of new leadership in China, an election in the U.S. that will, at a minimum, remove uncertainty, and easier credit ought to be good for the stock market. The SSE will increase by 25 percent to 2750 by the end of the year.

Prediction #4: Before the year is out, China will extend financial support to the European Union.

China will not bail out Europe. Nor will it provide any financial support without a lot of heavy strings attached. However, troubles in the European Union provide too good an opportunity for China to pass up.

As noted in our post on China’s economic expansionism, China has been using its economic might, not military prowess, to extend its influence throughout the world. In 2009 and 2010, two Chinese state-controlled banks lent more to developing countries than the World Bank. Chinese companies and banks are building out Africa, and are preparing to do the same in Southeast Asia.

Just as the global financial crisis provided China with an opportunity to extend its influence throughout emerging markets, the European economic crisis is now providing China with another such opportunity, this time in developed markets. The words of China’s leaders carry a great deal of meaning. In a speech at the World Economic Forum in Dalian last year, Premier Wen Jiabao called on European countries to put their “own houses in order before asking China for a bail-out.” But, he also publicly linked any possible Chinese investments with long-standing political demands. A preview of things to come?

I think so. The European crisis provides a good opportunity for China to curry favor and gain allies in Europe for its own agenda at the United Nations, the World Trade Organization and other global bodies. China will find a clever way to provide financial support and kill two birds with one stone—help shore up one of its largest export markets and advance its own agenda globally.

Prediction #5: Sino-American relations will deteriorate.

It’s an election year in the U.S. and the economy will be at the top of the agenda. The talk will be about jobs, and how China has taken all of them. China will be everyone’s scapegoat for economic weakness in the United States.

The Obama administration has been badgering China for the past three years on its currency, and a Democratic Senate, led by Chuck Schumer, is pressing to label China a currency manipulator and impose stiff tariffs on Chinese imports.

Mitt Romney, who is likely to be the Republican presidential nominee, has pulled no punches when it comes to China. As part of his 59-point economic program for the United States, Romney promised that one of his initial executive orders on his first day as president would be to “clamp down on the cheaters” by slapping duties on Chinese imports if Beijing doesn’t move quickly to float its currency. “I will label China as it is, a currency manipulator and I will go after them for stealing our intellectual property,” he said while unveiling his plan.

For its part, China slapped duties in November on certain cars imported from the United States in retaliation for U.S. trade policies. The fact that the tariffs are on large cars, the most profitable in any car company’s fleet, and that General Motors, the largest American car company, operates as a subsidiary of the United States Department of the Treasury is a subtle message that should not be lost on anyone.

2012 could be bumpy for U.S. businesses in China.

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One Response to “MTD’s Predictions for the Year of the Dragon”

  1. Great stuff, Jack.

    It’s always such a pleasure to read your positive views on the Chinese economy.