I wrote back on January 28, 2014…
“This is a character defining moment in capitalism, when the majority are not aware that the end of a business cycle is forming. There is asymmetric information, if you will. A few understand it. The majority do not. So what should be a time of seeking a sustainable level of output to establish a stable base for future growth to benefit society, will turn out to be an increasingly unstable game of seeking non-existent profits and protecting self-interests.
“Some may simply point to inefficient investments in China as bringing down the economy. Yet China is up against our own effective demand limit, because they rely heavily on our consumption.
“Economists seem to live in a world believing that their ideas are complete. Although some have recently mentioned that a revolution in economic thought must happen. It is true. This time IS different. An unnoticed factor in the past is making an appearance… Effective Demand. A poorly understood concept from Keynes. Effective demand is well below full employment for the first time in a long time. The result is that we blindly keep walking past a sustainable state that has higher marginal social benefits than where we are headed.”
What was I seeing? I was seeing that the United States was reaching its own effective demand limit. The implication was that consumption of Chinese exports would hit an economic wall. And considering that China was over-investing, China would hit the end of their business cycle this year. It looks to already be happening…
We know that consumption of luxury goods is declining in China. Now this article by way of Tyler Cowen. The article, which is actually two articles combined comes from Business Insider. The authors are John Maudlin and Worth Wray. The article, China will need a Series of Miracles to Sustain Growth, talks about many troubles in China. Here are some excerpts…
“…It turns out that Chinese warehouse officials are now emigrating in significant numbers to parts unknown around the world, armed with only their passports and whatever money they made through producing such bogus receipts. My sources suggest that the size of the problem is approaching $1.3 billion (far greater than the number being bandied about in public reports). Since one of the guiding principles operative in any scandal is that there is never just one cockroach, I expect the ultimate losses to be far larger. And it appears that the People’s Bank of China is finally going to let people lose money on these fraudulent schemes. Good for them.”
“Unfortunately, Leland’s key insights confirmed our fears that China’s consumption-repressing, debt-fueled, investment-led growth model is slowing down and starting to sputter… but not collapsing (at least not yet)”
“…the Middle Kingdom’s credit boom is well past the point of diminishing marginal returns; and no one can deny that the misallocation is widespread, with capacity utilization now below 60%.” (It was above 75% before the crisis.)
“It doesn’t require much imagination to connect the dots. Structural distortions in Chinese financial markets are a major cause of debt-fueled overinvestment; and without sweeping structural reforms (along with a major crackdown on corruption at all levels of government), captive capital will continue to flow toward unproductive investments, capacity utilization will continue to fall, and China’s investment boom will continue its march toward a mega Minsky moment.”
“It is clearly a bubble of epic proportions and already losing air.”
“Any kind of deflationary collapse in China could send a shock wave through the world’s hyperconnected and highly leveraged financial system, triggering extensive losses in European and American mega-banks and likely tipping the developed world back into a hard recession…” (The article gives this as only one outcome, not the only one.)
“If China’s GDP growth slows to 2–3% (a trend which may already be in progress), a corresponding decline in China’s appetite for commodities and other imports could fire a demand shock across all of these economies…” (The article lists many countries that export to China.)
The rapid and recent decline of spending on luxury goods is a key piece of data. It is naive to imagine that just a crackdown on corruption would slow spending on luxury goods by so much. Something else more profound is happening behind the scenes.
We need to watch China very carefully at the moment. A 60% utilization rate of capacity is extremely low. Profit rates must be declining fast in China. So if the rich really are escaping China, this is not good.