In an interview last week on CNBC, Jim Chanos said the following about China:
“Construction is 60-plus percent of GDP, compared to exports of 5 percent… The problem is that consumption as a percentage of Chinese economy has declined in the last 10 years, from 40 to 35 percent. It’s all real estate…When construction is 60 percent of your economy, and you are building lots of things that people don’t need, the state may let this get out of control… It’s hard to manage this type of bubble”.
Chanos also warned that steel, iron ore, cement and other materials needed for construction will be “under pressure” once the unsustainable construction boom subsides.
Now Business Insider has provided proof of China’s over-building and malinvestment with alarming satellite photos of entire cities laying vacant. Here’s what the article has to say:
The hottest market in the hottest economy in the world is Chinese real estate. The big question is how vulnerable is this market to a crash.
One red flag is the vast number of vacant homes spread through China, by some estimates up to 64 million vacant homes.
We’ve tracked down satellite photos of these unnerving places, based on a report from Forensic Asia Limited. They call it a clear sign of a bubble: “There’s city after city full of empty streets and vast government buildings, some in the most inhospitable locations. It is the modern equivalent of building pyramids. With 20 new cities being built every year, we hope to be able to expand our list going forward.”
And here are some of the photos of China’s empty cities. For the full gallery, vist Business insider.
Warning signs for Australia:
As I have said previously, no other commodity exporter has benefited as much from China’s over-investment in fixed infrastructure and real estate than Australia, as shown by the below IMF chart. Australia’s terms of trade (ToT) has risen to its highest level in a century as China has driven-up the prices of iron ore and coal – Australia’s two major exports.
The record high ToT has significantly raised national income, increased the Government’s tax take, and sent the Australian dollar to near parity with the USA. The surge of the ToT has also led to a significant increase in mining investment, as mining companies look to build supply capacity (see below RBNZ chart). This investment, in turn, has significantly boosted Australia’s GDP.
Now you don’t have to be Einstein to recognise that China’s growth strategy, based on building a whole lot of things that nobody needs, is unsustainable. You also don’t need a PhD to predict what will happen to commodity prices once China’s construction slows, and reduced commodities demand is met with increased supply, courtesy of the massive amounts of mining investment currently being undertaken by Australia and other commodity producers. Put simply, all of the positive effects on employment, incomes, growth and the Government’s fiscal position received by Australia over the past decade would unwind precipitously.
In fact, the Australian economy risks experiencing the doomsday scenario, whereby China’s slowing causes: (1) Australia’s ToT to crash; (2) increased unemployment; (3) severe worsening of the Budget bottom-line; (4) credit rationing and severe bank stress; and (5) a house price crash.
Once again, the doomsday scenario that I have outlined above is probably the worst-case outcome for Australia, and I am not predicting that events will unfold this way. But you should at least recognise that even if the bears, like Chanos, are only half right on China, then the impact on Australia’s economy could be severe.