WASHINGTON, Feb. 17 (UPI) -- The Chinese "bubble" may or may not burst, but China's status as an "Asian Tiger" of sustained rapid economic growth seems increasingly perilous. From current indications, I will appall Sinophiles and go so far as to claim that there is some danger of it acquiring parts of the Latin American disease, and turning into that attractive but ultimately unsuccessful Latin American native: the sloth.
A discussion Wednesday at the Woodrow Wilson Center entitled "Will the Bubble Burst" could not even reach agreement on whether there was a bubble in the first place. One speaker, Thomas Rawski of the University of Pittsburgh, took the frequently expressed skepticism about Chinese official statistics to new heights, claiming that China's growth in the four years 1998-2001 after the Asian crisis was not the officially claimed 33.8 percent (7.6 percent per annum), but somewhere between an unimpressive 11.4 percent (2.7 percent per annum) and an abysmal 0.4 percent (0.1 percent per annum). Clearly, if Rawski is right, there may have been a bubble in the Chinese stock market, but there has been none whatever over the last few years in the Chinese economy.
However, the other panelists were not convinced that Rawski was right, and a "split the difference" figure of 5 percent per annum gross domestic product growth (about 4.1 percent per annum growth in GDP per capita) still represents a decent performance and a fairly rapid enrichment of China's population
If there was a bubble in the Chinese stock market, there still is. In December 2000, I wrote mockingly of an initial public offering for a state-controlled steel company Baoshan Steel, which debuted at 4.19 yuan ($0.51) and shot up to 7.36 yuan on its first day's trading, in a process referred to by local brokers as "crazy stock stir frying." At the latter price, it was trading at 28 times forecast 2000 earnings of 0.26 yuan per share.
I have some good news for Baoshan holders: it wasn't a dot-com. 2002 earnings came in significantly higher than 2000's, at 0.34 yuan per share, and the company is now trading at 4.72 yuan, well below the "stir-fry" price but above its issue price, on a price-earnings ratio of 13.85. Still excessive for a steel company, but allowing for China's growth rate, maybe not wholly irrational. If you'd managed to buy in the IPO, you'd have done better in Baoshan than in most stocks over the last 26 months.
Interestingly, I wrote more approvingly the following day about VSNL, the Indian telecom company, then selling at 316 rupees ($6.60), about 7.6 times the 12-month trailing earnings of 42 rupees a share. VSNL's earnings have also done OK -- in the year to March 2002 they were 48 rupees a share. Alas, the stock today trades at 85 rupees, on a trailing price-earning ratio of 1.8; since December 2000 you'd have lost over 70 percent of your money. It's a lesson: journalists shouldn't tip shares!
The Shanghai A share index, for domestic investors, was about 2,100 in December 2000 and is now at 1,579, down 25 percent compared with a decline of over 30 percent on the U.S. S&P 500 Index. The Shanghai B index, for foreign investors, was about 75 then and is now 120, having been over 200 in 2001. Early 2001 clearly was a bubble in the B share market; it is by no means clear that today's market is more than moderately overvalued.
Politically, the picture is also moderately positive, at least economically. At the 16th National Party Congress last September, outgoing Premier Jiang Zemin stated that private property in China should be subject to the same legal rights as state property. This is just one in a lengthy series of moves towards a free market system, that have been occurring since Deng Xiaoping became premier in 1978.
It is however a crucial move; the rule of law and the protection of private property are the central tenets of a free enterprise system that works, and the lack thereof is very often an important signal of an economy that doesn't work, such as Boris Yeltsin's Russia, and post-1945 Argentina.
At some point, China, while still far from a democratic or a free society, ceases to be a communist country experimenting with capitalism and becomes a free market country burdened by a legacy of the past. By Jiang's speech, that point may have been reached.
There remains however one enormous overhanging problem, which does not appear easily soluble, and that is the banking system. Bad debts in the state banks now total around $600 billion, while deposits in the banking system are only around $800 billion. The Woodrow Wilson Center conference claimed that the bad debts simply represented social security-type payments to redundant employees by state companies, and should therefore be counted as state debts, the totals of which, even including the bad debts, would be tolerable at around 90 percent of GDP -- by that measure lower than Japan's.
This begs two questions. First, there is the problem of re-capitalizing the banks -- even China will find it difficult to borrow $600 billion externally in order to do so. Second, if the bad debts are largely disguised social security payments, then it follows that the increase in bad debts, and interest thereon, should be added to the state budget deficit. This would take the budget deficit from the 3 percent of GDP officially claimed to somewhere in the 10 percent to 15 percent of GDP range. That is a very serious figure and one it is far from clear could be financed.
Essentially, the high Chinese savings resulting from the thrifty habits of the citizenry have been poured down a rat hole -- clearly an unhealthy state of affairs. At the very least therefore, whatever the state of the stock market (and I am by no means convinced that market manipulation and Enron-type accounting gimmicks are not widely utilized) China must undergo a deeply painful bank restructuring exercise, more difficult than that in Japan because the problem is larger relative to the size of the economy.
You may be wondering where the attractive but idle sloth comes in; culturally, China could hardly be less similar to Latin America. The sloth raises (or lowers, since it hangs upside down) its superficially attractive head when we look at China's Gini coefficient.
The Gini coefficient is a measure of the inequality in a society, rather difficult to calculate and subject to fairly severe estimation errors, but of increasing importance in economic analysis. As I have previously written, economically successful societies have Gini coefficients roughly between 0.3 and 0.4, whereas Gini coefficients outside that range, particularly those far outside the range, tend to be associated with economic failure. This makes sense. If Gini is too low the society, like Britain in the 1970s (0.25) or France (0.27) and Germany (0.28) today, tends to stagnate because of lack of incentives. If Gini is too high, on the other hand, like Argentina (0.49) or Brazil (0.58) let alone South Africa (0.62), then the "trickle down" of wealth from the rich to the poor doesn't work; the society segregates itself into the wealthy and the underclass, and growth also stagnates. The United States' Gini is about 0.40, having risen from 0.32 30 years ago. Britain's is today about 0.33, South Korea's is 0.32, Singapore's 0.39 and Taiwan's 0.31. Only Malaysia at 0.45 and Thailand at 0.47 of the successful Asian economies are outside the success range of 0.3 to 0.4; both economies have problems of wealth concentration, as does the Philippines at 0.47.
According to figures quoted by sociologist Deborah Davis at the WWC conference, China's Gini coefficient, which was towards the bottom end of the optimal range at 0.33 in 1980, has been rising steadily and quite sharply in the last two decades. Between 1980 and 1994 it passed through the optimal range, perhaps explaining the very high economic growth rates China experienced during those years. Since 1994, when it hit 0.4, it has moved beyond the range; the latest figure available, for 2000, puts it at 0.458 in that year. This is borne out anecdotally by the stories of rapidly increasing wealth of Shanghai yuppies, combined with deep rural poverty and an increasing problem of urban unemployment as the state owned enterprises restructure and lay off unneeded workers.
In this respect, therefore, China may indeed be turning into Brazil. If we assume that the increase in China's Gini coefficient, slightly accelerating in 1980-2000 and now about 0.008 per annum, has continued at that rate, then the Gini in 2003 is 0.482. Continuing the trend pushes China's Gini past Argentina in 2004, and reaches Brazil in 2015 and South Africa in 2020.
In other words, China's Gini coefficient has already moved beyond all the successful Asian markers, even the doubtful Thailand and the even more doubtful Philippines, and is squarely into Latin American territory.
The comparison is not perverse. China's purchasing power parity GDP per capita is currently about $4,300, not hugely below Brazil's $7,400. It is reasonable to suppose that, as China's statistics converge on Brazil's so its economic performance may do likewise. A lengthy recession caused by bank debt restructuring, and continued widening of the economic gap between the Shanghai yuppies and the rest of the country could very well push China in this direction -- by 2015 it could be performing economically very like Brazil, with impressive metropolitan areas marred by a deeply depressed hinterland and little real economic growth.
Shanghai, I gather, is extraordinarily impressive, a hive of commercial and industrial activity where you can truly feel the future being created. I have not seen Shanghai. But I did, in 1978-82, spend quite a lot of time in Brazil, and I can report that at that time Sao Paulo too was an extraordinarily dynamic and exciting city, with few of the problems of pollution, overcrowding and appalling crime that have since destroyed its attractions.
China's one hope is trade. Unlike in Brazil, the current Chinese government, represented at a Washington meeting in December by trade minister Long Yongtu, believes fervently in the benefits of international trade to open up the Chinese economy and increase the living standards of the Chinese people. If the Chinese government and its businesses manage matters well, maybe the trade opening can spread some of the wealth to China's rural areas, slow the inexorable increase in China's Gini coefficient, and maintain China's current position as a vibrant, growing economy.
Maybe, but as any Brazilian will tell you, such a rosy future is by no means inevitable.
(The Bear's Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that, in the long '90s boom, the proportion of "sell" recommendations put out by Wall Street houses declined from 9 percent of all research reports to 1 percent and has only modestly rebounded since. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)
