The China Card (Part 3)

So what has gone wrong in China?

The slowdown in Chinese economic growth has led to a 4% market decline this year, even as other world equity markets are growing at a double-digit rate. It may even have contributed to the recent record drop in Japanese stock prices. But what’s causing their economy to sputter?

Some point to government capital controls: in prior years the banks have had capital requirements raised because of concerns about inflation. But a more likely candidate is capital misallocation. There’s a lot of central management of the Chinese economy—note, for example, their heavy subsidies of flat solar panels. This has led to rampant oversupply and the bankruptcy of several large solar-cell manufacturers—resulting in job losses.

Capital allocation is difficult in the best of circumstances, when price signals can rapidly adjust to new circumstances affecting supply and demand. In an administrative state where prices can be manipulated for political purposes, misallocation is inevitable, and you get overbuilding and underdevelopment, with an accompanying slowdown as the economy adjusts.

Booms and busts happen even in the most developed economies—don’t we know it! China may grow through its problems, but there will be some tough sledding ahead.

Douglas R. Tengdin, CFA

Chief Investment Officer

By | 2013-05-24T09:50:01+00:00 May 24th, 2013|Global Market Update|0 Comments

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