Is China’s Bubble About to Pop?

“China’s growth model is broken and can’t be so easily fixed.”
– Michael Schuman in “The Real Reason to Worry About China,” Time Magazine

Is China's Bubble About to Pop?Recently, China’s GDP slowed from around 10% annually to just over 7% a rate of growth still envied by most nations. Is it a temporary lull or a sign of things to come? Many economists and analysts believe that China may not ever see such astronomical rates of growth again.

To understand why this is so, we must look at not one or two sectors, but nearly every sector of the economy. China isn’t facing a bubble, it’s in danger of taking an economic bubble bath. Unfortunately, things may get much worse for China before they get better.

China’s Real Estate Bubble

You’ve heard of the one-child policy. But what about the one-apartment rule? That’s exactly how the government has been attempting to tame the mainland housing bubble. Following 1998 policy changes which allowed publicly held apartments to be sold to new owners, real estate in China went wild. Allowed to invest in little else, families pooled generations of savings to purchase multiple apartments… even more than they could live in.

The result? CBS’s 60 Minutes shocked U.S. viewers with their “China’s Real Estate Bubble” report,  revealing footage of huge, modern “ghost cities,” complete with empty high rises, freeways, and malls. Cities built for millions sit empty, and even the developers nervously admit that the bubble could bring devastating consequences.

Even after the restrictions and temporary price drops, China’s housing market is still a runaway train. Almost all cities are showing price increases, with major cities boasting double-digit gains. According to Bloomberg, “Existing home prices rose 18 percent in Beijing last month from a year earlier, followed by a 14 percent increase in Shenzhen and 12 percent in Shanghai, according to the data.”

Those who can, go elsewhere. Another concerning issue, according to Forbes.com, is that the wealthy in China are increasingly buying elsewhere due to greater perceived value and fewer restrictions.

Last week, Juwai released a survey of globe trotting home buyers. Seventy-three percent said that property was cheaper and of better value overseas than it was in China. Another 73% said they now have second thoughts about buying a home in China, and 29% said that the government’s choke hold on housing has them looking overseas for real estate now.

Demand in China’s major cities remains high for smaller, more affordable units, but many luxury condos remain empty. Meanwhile, those who can afford the higher-end apartments are investing tens of billions in the U.S. (where Chinese buyers are the second largest home purchasers behind Canadians), Great Britain, France, Malaysia, Cyprus, Costa Rica, Australia and New Zealand.

China’s Age Bubble

As the Baby Boomers head into their senior years in the U.S., Americans are keenly aware of the impact of an aging population. Healthcare costs rise. Social services become strained. Fewer taxpayers share the burden. Adult children find themselves in the “sandwich generation,” caring for both children and parents.

Now imagine that impact multiplied. The Chinese often self-insure, which has advantages, but also discourages spending. And the sandwich generation children increasingly have no siblings to help them care for aging parents, the result of China’s 1971 the one-child policy.

Due to increasing longevity, China’s population is still rising at the rate of over a half a million a month. But does the one-child policy make for a healthy, balanced, productive society?

The aging of China has potentially disastrous economic ramifications. Young people work; older people retire. As the population of China ages, the labor pool is shrinking. For a country that only recently surpassed the U.S. as the world’s top manufacturing nation, producing nearly 20% of manufactured goods, this is not good news. According to MercoPress,  the U.S. remains just behind China in manufacturing output with only 11.5 million workers in the industry, compared with 100 million in China.

In other words, the U.S. wins in productivity; China reigns because of cheap labor. As Time.com recently described, “The pools of idle labor that filled Foxconn’s assembly lines are drying up…. The workforce has already started to shrink. Even more worrying, the state-led, investment-obsessed system spawns too much debt and too many factories, leading to wasted resources and a debased financial sector.”

The Contrarian Profits blog issued this warning in “China’s Biggest Bubble Isn’t Real Estate”: “Today, there are about five workers for every pensioner. By 2035, there will be only two workers for every pensioner. That’s not just bad – that’s a disaster.”

China’s Business and Credit Bubbles

Additionally, China’s state capitalism has led to market failures in business as well as real estate. Less responsive to market feedback due to government subsidies, industries such as solar-panel manufacturing have grown out of proportion to demand, leading to many failures.

Perhaps most alarming is the explosion of debt in China. Credit relative to GDP reached a shocking 198% by the end of 2012, up from only 125% in 2008. Local government debt has escalated as well to an estimated $2 trillion, or 25% of GDP. And Time had this ominous warning about the rise of debt in China:

The risks have been heightened by the emergence of ‘shadow banking’ — mysterious, unconventional sources of lending often kept off the banks’ balance sheets — which George Soros recently warned could be as risky as the toxic subprime-mortgage securities that tanked Wall Street.”

Can any country can maintain the rate of growth indefinitely that China has enjoyed for many years? Many analysts feel a slowdown was inevitable. For them, the question is, will China slow down (perhaps a good thing), or collapse into a financial crisis? First the U.S. economy melted down, then some of the European economies followed. Those crashes were felt all around the world, and the impact of a China meltdown would be no less impactful to all of the world economies.

But not all analysts agree on China’s economy. Columnist and former Goldman Sachs manager Jim O’Neill details in a recent article in Bloomberg why, in his opinion, the sky isn’t falling after all. He notes that perhaps part of the pessimism comes from a belief that non-democratic countries can’t be expected to prosper for long, even when they do. After all, China’s 2013 GDP is anticipated to be about $9 trillion, easily more than half of the U.S. GDP, a feat that no one could have predicted 20 years ago.

O’Neill takes China’s pulse and declares the patient healthy, if a bit less energetic than 5 years ago. Inflation remains at 3% while growth remains strong (though declining) at 7.5%. He finds healthy consumer spending to be the most compelling sign of economic health in China, noting that  “consumption has held up well, despite the fall in the trend of industrial production.”

Still, O’Neill admits that many investors have lost money in the Chinese markets, and rushes to offer an explanation of why that is so. (Money managers and analysts tend to be good at explaining why stocks didn’t perform as anticipated but why investors shouldn’t be afraid to invest again, now that the market mechanisms are better understood.)

What would economic troubles in China mean for American investors? In this international age, our national economies are linked and intertwined. Because China’s 2013 GDP is anticipated to be about $9 trillion, easily more than half of the U.S., it is clear that China holds a lot of chips in the world economy card game. If a crash is coming, as many analysts predict, it spells big trouble for the world economy and tremendous instability for the stock market.

Are you speculating, or building wealth you can count on?

At Partners for Prosperity, Inc., we make no predictions about China, but assert that successful, sustainable wealth-building is rarely about speculation. Anyone can get lucky, as many investors did before the dot.com bust or the 2008 crash. But true wealth is not holding a winning hand in the fickle stock market, but the ability to create reliable, predictable growth in your own personal economy.

Wealth-building is a predictable process when you follow the 7 Principles of Prosperity, of which a key principle is CONTROL. We believe the only stock market “sure bets” are that it will continue to produce  both winners and losers, and that no investor can control international economics and their effect on stocks. That’s why we recommend investment alternatives to the stock market, along with steady savings in tax-advantaged cash value accounts that surpass the inflation rate without nail-biting ups and downs.

To find out more about the 7 Principles of Prosperity, download our Prosperity Accelerator Pack and listen to Kim D. H. Butler’s special audio report. Simply opt-in below. There’s no cost, and you’ll also receive free updates in our Prosperity on Purpose ezine.

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