Email of day (1)
“I find it difficult to not see the China economy over recent years as a bit of a bubble. In my country business leaders, official circles and academic organisations circulates the most glowing forecast regarding the Chinese economy. This overt bullishness leaves me rather cool and cautious. Has Beijing discovered the perfect capital allocation model for a command economy ? Or more likely has there been a element of good luck as that economy over the last 30 years rose of a very, very low economic base.
“We all want China to succeed. However I do struggle with the idea China can leap from a impoverished 3rd world country to first word status in 50 years. Many countries strive to be 1 st World not many achieve that status. Japan and South Koreas exceptional growth was principally built on existing western business ideas and doing it better. In some areas China will succeed in doing the same. However businessmen I speak with all report that in capital goods China manufacturing quality is appalling. I see that as signs China is struggling to transition its economy from the sweat shop manufacturer.
“Before I buy any China facing stocks (such as BHP & RIO) I want see the Shanghai Composite maintain a strong upward bias. In the mean time I plan to just watch.
“My son flew out to China yesterday as part of his MBA studies. I am hoping to get some firsthand feedback when he returns later in the month.
“Fullermoney remains a excellent service that I value. I hope Fullermoney continues to prosper into the future.“
Eoin Treacy's view Thank you for this enlightening email. It was a pleasure to meet both you and your son at The Chart Seminar in Sydney last year and I'm sure the Collective would appreciate hearing his impressions of China.
This chart from a report by Sarasin in 2010 is probably the best depiction of what we can expect from high growth countries as they become progressively wealthier. In very simple terms, a country faces less of a challenge when developing from a low base. Moving from $1 per day to $1.10 in a year represents a 10% advance but is not the same in terms of productivity as moving from $100 to $110. As countries become progressively wealthier, the challenge they face is in continuing to innovate in order to sustain high growth. Even then, growth rates inevitably fall as the multiplier effect on percentage gains decreases as GDP increases. Therefore it is unreasonable to expect China's 10% growth rate to continue indefinitely. In fact, because India is coming from a lower base than China, its growth rate could outpace that of China if it remains on a positive governance trajectory.
By abandoning the collectivism that characterised classical Maoist economic policy, China succeeded in mobilising its vast population to become the workshop of the world, particularly for low cost manufacturing. Over the last couple of decades investment in infrastructure surged so that its Tier 1 cities now have facilities that rival any city in the world. By 2010 it was increasingly evident that China had squeezed about as much growth as it could from infrastructure development. Imbalances are evident throughout the materials, industrials and property sectors of the economy (Also see Comment of the Day on March 5th) and these have been identified at the highest levels.
China is now a middle income country on a PPP basis. If it is to succeed in evolving further then it will need to embrace additional reforms. The basic objective is to mobilise private sector savings which are in the region of $3 trillion. This is why such efforts are being made to boost the minimum wage, lower property prices, improve access to medical care, social security, clean air and water. Whatever is done to improve these goals can be viewed as progress. Failure to achieve these goals will likely result in a significant slowing in China's pace of development.
Efforts to normalise monetary policy following the 2008 stimulus remain largely in place and are having an adverse effect on consumer sentiment. The CSI300 Consumer Staples Index has deteriorated sharply over the last month and broke to new reaction lows last week. While oversold in the short term, a clear upward dynamic will be required to check momentum. Today's downside key reversal on Hong Kong's Hang Seng suggests at least short-term resistance in the region of 22,000. Follow through tomorrow would increase the chance that the 21,000 level will be retested and a sustained move below that area would break the four-month uptrend. Yum Brands represents perhaps the best US listed portrayal of the impact monetary and fiscal tightening is having on the Chinese consumer. The share fell sharply on Friday and while it has paused in the region of the 200-day MA, the size of the dynamic will have had a damaging effect on investor sentiment.
With regard to the quality of Chinese manufactured goods, one really does have to be careful in purchasing. A great deal will depend on where you source your goods, how long you have been a customer and whether you employ your own quality control people. I have met a significant number of Chinese manufacturers who lament at not being able to manufacturer better quality items because the majority of their customers only care about price. Generally speaking Guangdong produces better quality but somewhat more expensive items. In the capital goods sector, the build quality of machinery such as generators tends to be unreliable, at least from what I have heard. Nevertheless, Great Wall Motors cars are now available in Australia so it is difficult to make sweeping statements.