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Monday, November 2, 2015

China...Fictional Fairytale Vs. Factual Truths

The fictional story of China I often read is that of 7% annual GDP growth, fast rising wages, and growing middle class consumerism underpinning so many corporations growth and revenue estimates. However, the non-fiction reality is a different story all together. That of Chinese credit growth quadrupling since '07 as the primary trigger for the doubling of wages and tripling of GDP over that period.

A quick review from 2000 should help offer some perspective:

  • '00-->'07 global credit grew $55 T (China was up $5 T or 9% of the global total). Chinese core pop grew by 120 million (9.5% increase vs. China's '00 total population). China wages rose 2.3x's, GDP 2.9x's. China represented 30% of global growth in oil consumption.
  • '08-->'14 global credit grew $57 T (China credit grew by $21 T or 37% of global credit growth). China's core population rose 42 million (3% increase vs. China total '08 population). China wages rose 2x's, GDP 2.9x's. China represented 56% of global growth in oil consumption.
  • '15-->'21 China's core population will fall an est. <-11m> (or a -1% decline vs. China total population and the decline will only accelerate thereafter).

To maintain China's GDP and wage growth in the '15-->'21 period, particularly as global exports are decelerating and China's core population is shrinking, China will likely need to quadruple its credit base again. This would be no easy fete as this would equate to an increase of $84 trillion or $12 trillion a year!

The gazillion dollar question is if China's core population is sure to decline, and China credit isn't likely to quadruple again (again, that would be $84 t or $12 trillion/yr over the next 7 years); how likely is China's wage and GDP growth to maintain its pace over this next 7 year period??? China's rise of oil consumption? China's shopping mall bonanza? China's housing surplus? China's role as pre-eminent driver of global growth...or any growth (period) in China??? Or perhaps contraction is the most likely outcome and the implications for commodities to consumer goods will be decelerations and/or contractions for oil, steel, apple iPhones. You name it and growth of Chinese demand is set to collapse (not necessarily demand itself, but growth in Chinese demand at anything resembling the past 15 years is highly dubious).

Below, Chinese total GDP, total Credit, PPP (Purchasing Power Parity) of per capita earnings, juxtaposed with decelerating annual core (15-64yr/old) population growth. Plainly, credit growth was substituted for decelerating population growth to maintain overall growth.


The below chart shows the growing importance of China's annual change in oil consumption vs. the rest of the world.

Below, by period, China vs. the world total growth in oil consumption. In the most recent period, China's growth in consumption of oil rose in excess of the remainder of the world.

China growth of oil consumption (%) vs. the world (x-China), by period is shown in the chart below. China's increasing role in rising oil consumption is quite obvious in the most recent period. However, I could highlight the growth in consumption of copper or steel or...or...or. Amazing for a nation representing about 1/6th of the global population to outgrow the remaining 5/6ths of earths inhabitants. Clearly, decelerating growth and even potentially outright declines in China's oil consumption are the pre-eminent factors presently weighing on the price of oil.


China's 0-64yr/old population will shrink for decades (chart below)...despite China's politically implemented one child policy, nearly all nations that have moved from high to low birth rates have been unable to revert back to higher birth rates. This is true across the EU where nation upon nation have unsuccessfully offered incentives of all sorts to increase birth rates. The story in Asia is the same in Japan, Taiwan, S. Korea, and China all seeing significantly negative birth rates...and Asia (incl. India) in total has fallen from 5.8 in 1950 to 2.1 children per female of child bearing age as of 2015...and still falling. China's softening of its one child policy a couple years ago and outright abandonment now are likely to have little, if any, impact on this. And China's net emigration isn't likely to reverse itself...but probably more plausible than birth rates rising significantly.


From '14-'16 China is building 65% of all new global retail space...nearly doubling existing shopping mall square meters within China. The chart below highlights the annual change and total sq/m's...all while China online shopping is growing by leaps and bounds and China's shopping population is now declining. The same story goes for growth in China skyscrapers, growth in China office space, and massive infrastructure growth for a declining under 65yr/old population?!?


Again, in a nation faced with decades of a shrinking 0-64yr/old population (representing fewer potential buyers every year)...a massive overhang of 50 to 100 million vacant housing units (primarily high end units) seems about the worst possible scenario.


This is where the story gets very interesting. From '00 until July '11 (July of '11 representing the US debt ceiling debacle), China had recycled 56% of it's US $ trade surplus back into US treasury bonds (chart below). Suddenly in July '11, China ceased accumulating treasury bonds and began selling despite continuing to run record $ trade surplus'. Since July '11, China has not purchased (net) a single US fact China has sold $45 billion since July '11 while taking in excess of $1.25 trillion in surplus dollars.

  • '00-->July '11 $2.3 t trade surplus...+1.28 t (56% of dollars recycled into T's)
  • July '11-->'15 $1.25 t trade surplus...<-$45 b> (-4% of dollars recycled into T's)

It's pretty clear China's reaction to the US Congressional determination to monetize rather than prioritize (via taxation / spending) was a loss of confidence in US treasury paper promises. It's pretty well known China shifted from purchasing zero yielding paper to accumulation of physical assets...including gold. In fact, if China simply shifted the 50% of trade surplus dollars that had been buying treasurys and instead purchased gold (the $'s have to go somewhere!), China would now easily hold well in excess of 10k tons of gold and be the worlds greatest physical reserve of gold. A quick review of the Shanghai Gold Exchange balance of trade seems to support this thesis.


Also entirely noteworthy, since July '11, not just China but most natural sources of dollar trade surplus' (BRICS, OPEC, domestic public (US banks, pensions, insurers)) have decreased or entirely ceased buying treasury's (chart below). And on a general slowdown and/or abandonment of the US Treasury market by the largest buyers, US interest rates have not only not risen...but fallen by a third?!?

Since July '11, the chart below shows three primary sources, (none with trade surplus dollars in need of recycling), have taken over. The Federal Reserve, the BLICS (Belgium, Luxembourg, Ireland, Cayman Islands, Switzerland), and Japan (in the midst of record trade and budget deficits).

The pivot by BRICS, OPEC, etc. turning away from US Treasury's to initiate and maintain ongoing physical gold purchases coincided with a simultaneous and ongoing collapse in the price of gold (gold's price peaked in July '11 and has fallen by a third since?!?). Suffice to say, when the price of something collapses on ongoing record (physical) demand and the price of something else rises on a collapse in demand...these are not typical free market responses. When the largest and most fundamental markets act contrary to supply and demand...when the cornerstones of a market are seemingly removed...the validity of the market signals in general are clearly up for debate?!?

Of course, the extent of China's swap from Treasury's to gold is unknown and not made public. So, how that plays out and whether that will act as some sort of trump card to be played later against China's other issues is a mystery.

Will this mystery have a surprising plot twist? Unfortunately, that is well beyond my pay grade and I have no "inside sources". All I can offer is publicly available data detailing a story well worth reading whose conclusion will likely change the way we view the world!


  1. You have very skillfully joined the dots of the US QE, the China credit, consumption and population stories with the shift by BRICS countries from US Treasuries to gold, into one compelling narrative.It will be interesting to see how the story develops as the world powers use geopolitics (Middle East, refugees, Ukraine etc.) to 'profit' from the inevitable economic pain that lies ahead for all of us.


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