China January Data Concludes The Debate

By John Richardson

THE latest data from China further underlines what I have been arguing since early last year – that it is at the centre of a Great Unwinding that will have deep and lasting global economic consequences.

Here is the data:

• Chinese imports, primarily of raw materials, fell by 19.9% in January.
• Exports fell 3.3% against expectations of 6.3% rise.
• While such a dramatic slump in imports can be partly explained by considerably lower prices for raw materials the data shows that imports are down in terms of volume also. Iron ore imports fell by 9.4% in volume terms, while coal imports fell almost 40% by volume and oil by 7.9% between December and January on a year-on-year basis. Imports into China have been declining every month since October.
• And here is something that literally took my breath away, even though I have been long warning of the risk that China represents for all of us: The collapse in imports and exports – which, of course, shows a sharp slowdown in manufacturing – happened despite industrial capacity being roughly 25% higher in January 2015 than the same month last year!
• Here is something else to ponder: Last January, the Lunar New Year took place on 31 January. This year, it falls on 19 February. So, industrial production in January 2014 should have been lower than this year if the economy was in good health, The reason is that in January 2014, the seasonally-driven manufacturing slowdown before the Lunar New Year started earlier
• China’s consumer price inflation fell to 0.8% in January, the lowest level for more than five years. The rise in inflation was sharply down from 1.5%, which, in itself, was the weakest rate of growth in inflation since November 2009.
• Producer prices fell for the 35^th straight month in January. The 4.3% January decline in producer prices was the biggest decline since October 2009.

Some analysts are still pointing to all the recent bad data as a sign that China now has more room for further monetary and fiscal easing.

This does not take into account what the government is still saying – and has said very consistently since late 2013.

For example, read again what China’s prime minister, Li Keqiang, said to local business leaders in January.

Also read this statement from an official at the People’s Bank of China. It confirms my analysis that last week’s cut in the bank reserve requirement was not about a policy reversal towards more stimulus. Instead, the cut was about providing emergency liquidity for an economy in deep crisis.

And for anyone who has bothered to do the maths, we know that China cannot, simply cannot, spend its way out of this crisis.

Last year, quoting statistics from China’s National Bureau of Statistics, I pointed out in several blog posts and many presentations the following:

• In 2007, $1 of credit added 83c to GDP.
• By 2013, $1 was only adding 17c.
• 2014 estimates suggest $1 will add 10c.

You cannot keep pouring more money into this hole, as the government has again itself recognised.

The size of the hole also needs to be considered as a further reason why more debt is entirely untenable.  McKinsey, in a report released last week, said:

China’s debt quadrupled from $7 trillion in 2007 to $28 trillion by the middle of last year. At 282% of GDP, this debt burden is now larger than that of the US or Germany. Half of these loans are linked to the property sector.

Some people might still say, however, that “China’s vast foreign reserves” mean that it has ample funds to deal with this debt crisis.

But as James Gruber, a Melbourne, Australia-based financial journalist and former fund manager, has long pointed out, China’s foreign reserves only total around $3.9 trillion.

Let us assume, though, for arguments sake, that the government does a policy U-turn.

In the current climate there is little evidence that greater availability of lending will lead to either more loans or more borrowing.

For me, until this morning, this was a qualitative thing, based on my trip to China last September and many conversations with friends in China since then.

Now we can add some statistical weight to this market intelligence.  The chart below shows the decline in demand for lending in 2014.

So what is China’s government going to do?

We know that it cannot back away from reforms, and we know that its very legitimacy depends on preserving jobs.

These other statistics must therefore be a big worry for Beijing:

• The employment component of China’s official purchasing manager’s index contracted in January for the 15^th straight month. Although the official unemployment rate is 4.1%, a joint study by the International Monetary Fund and the International Labour Federation says that the real rate is 6.3%.

The government’s answer? It will export deflation through supporting exports – quite possibly through a devalued Yuan – as I have, again, long been warning about.

And in some chemicals and polymers it now has big surpluses that are set to seriously disrupt global markets.

The second slide below takes polyvinyl chloride trade and production data for 2012, 2013 and 2014 as an example. The “China” tab, showing the 23% increase, refers to the rise in local production.

“China spent $5 trillion on fixed investment last year, more than Europe and America combined, increasing its overcapacity in everything from shipping to steels, chemicals and solar panels, to even more unmanageable levels,” wrote Evans Ambard-Pritchard in this Daily Telegraph article.

“A Yuan devaluation would dump this on everybody else. It would come at a moment when Europe is already in deflation at -0.6% and when Britain and the US are fast exhausting their inflation buffers as well.”