China: where’s the inflation?(financial repression leading to bubbles and overcapacity)

China Financial Markets ^ | 06/15/10 | Michael Pettis

[TigerLikesRooster]

China: where’s the inflation?

Jun 15th, 2010 by Michael Pettis

/snip

.. policymakers can still contain inflation by what economists call financial repression, made possible by their control over the banking system in countries where banks completely dominate the financial system. In the Chinese context, financial repression exists because the vast bulk of Chinese savings is in the form of bank deposits, and the deposit rate is set at extremely low levels.

This has the effect of transferring large amounts of income away from net savers, which for the most part consists of Chinese households, and in favor of net users of capital. Net users, of course, consist primarily of large, capital intensive businesses, real estate developers, infrastructure investors and local and central governments, including the People’s Bank of China, the largest net borrower of renminbi in China. Net savers are forced into subsidizing net users, in other words.

The consequence is that monetary growth is channeled not into household demand but rather into the production of more goods, and the inflationary impact of monetary expansion is muted. Financial repression is an alternative to currency appreciation or inflation.

The cost of low interest rates

But according to Aliber’s model, financial repression has a cost. It leads to overinvestment, asset bubbles, and rising excess capacity. By keeping the cost of capital in China very low – perhaps as much as 5-8% below a rate that would impose a fair distribution of the benefits of economic growth between savers and users of capital – it results in a surge in investment which, allied with large-scale socialization of credit risk, can lead at first to a rapid increase in economically viable investment but ultimately, if left unchecked, results in capital continuing to pour into investment long after its returns are uneconomical.

[TigerLikesRooster]

P!

[crghill]

Hmmm

[bruinbirdman]

Did you know that Mao's mug is on the 5, 20, 50 and 100 denominations of the yawn?

No wonder it's not convertible.

yitbos

[UnbelievingScumOnTheOtherSide]

The mother of all bubbles.

[TigerLikesRooster]

China has not advanced to the level of Japanese economy in late 80's. However, it shows the same symptom of economic ills which plunged Japan into 20 year stagnation. Actually Chinese situation is worse, if you factor in rather volatile nature of world financial market and the level of corruption way higher than Japanese in 80's.

China's economic rise occurred on the backdrop of over-leveraged volatile financial climate. The world economic climate is more volatile and less predictable than in 80's Meteoric rise followed by spectacular collapse is more common these days. During the upswing, the world economy helped China grow rapidly. Now in the steep downturn, it could unravel Chinese economy fast.

[grey_whiskers]

Will.

Don't forget their stockpiling of commodities over the past year.

I'm waiting for the Sinofellators to exclaim with glee that the current economic problems of the world are proof that when China sneezes, the rest of the world catches a cold...

Cheers!