Many, if not nearly all of the foreign correspondents in Beijing have been focusing on more or less the same topic for the past six months, namely how the global financial meltdown is affecting one of the most important spokes in the wheel of globalization,China. They’re sending photographers and reporters to the railroad station to get photos of migrant workers leaving Beijing for their hometowns who know they will probably not be coming back anytime soon. They’re sending them to Shenzhen and Dongguan to cover the closings of factories and how each closing ripples through the food chain in concentric circles. As I said in an earlier post (with the best comments thread in years), it’s all economic crisis all the time. Every day. 24/7.
Everything is now discussed in relation to the crisis. Every discussion about future projects I have with people in all kinds of industries includes the obligatory clause about how “it all depends on how bad the crisis is at the time.” Just last night I attended a panel discussion (and an excellent one, at that) on how we in Beijing can apply creativity and entrepreneurial skills to make money at a time when the economy is contracting. I think nearly everyone I know spends a good part of the day thinking about the crisis in some form or another, whether it’s choosing where to go for dinner or what to do for CNY, buying a Christmas gift or renewing your gym membership.
Which brings me to the link of the day. Paul Denlinger recently wrote one of the grimmest arguments I’ve seen about where we’re all heading, and why China and the US have got to crash. Unfortunately, I agree with him pretty much across the board. This is a lengthy clip, but it’s all essential stuff.
Now, China and America are entering a dangerous period of deglobalization, where they have come to the realization that after the bubble pops and the deleveraging begins, their interests are really quite different. Instead of China and America being two sides of the same economic coin, they need to play or pander to their own constituencies. The blame game will begin.
And their native constituencies are confused, hurt and angry. But they are not nearly as angry now as they will be in the near future when they have figured out what has happened to their wealth. When that happens, there will be hell to pay, and there will be blood in the streets.
The reason for this is because the leveraging which occurred is simply too big and too complicated. Taking all the bad leveraging out of the system and replacing it with cash and credit liquidity is like trying to rebuild the engines of an aircraft in flight. It cannot be done. This means that there can only be a crash.
The bright side is that crashes can be managed. You can go into a death spiral which is impossible to pull out of, but a smart pilot will look for a stretch of land and try to glide in for a crash landing. So far, the political leadership worldwide is pursuing policies which more closely follow the former path of the death spiral. This is because everyone is acting in what they perceive in their own interests, instead of keeping their heads and thinking through what needs to be done. It is a deadly panic move.
The problem is that we are now entering a phase where the crisis has spread from subprime mortgages, to derivatives, and then on to currencies. In the beginning the patient suffered from a lack of credit liquidity (constipation), so the central banks are going to provide liquidity (the enema). This did not work, and the patient has become bloated. There is the very real chance that this will eventually cause runaway inflation (dysentery) and the patient will then die of dehydration. When this happens, the currency becomes worthless and society falls apart until a new dictator imposes his will on the society, as Hitler did at the end of the Weimar Republic in Germany. In China’s case, runaway inflation led to the Kuomintang and Chiang Kai-shek’s loss of support in the cities, and directly contributed to the establishment of the People’s Republic.
Sounds really really really bad, doesn’t it? That’s because it is.
I believe Paul’s metaphor is spot-on. The deflation we are seeing now is the first phase in the treatment, and as the patient is bloated – i.e., as dollars are printed and thrown everywhere – inflation is inevitable, if not hyper-inflation. (I think that may be a year or two down the road, with what we perceive to be a deflation in the short term.)
Meanwhile, I am sticking, for now, with my original argument that even though China will be slammed hard, it will hold up relatively better than the US (“for whatever that’s worth,” as I said before). This is mainly because despite its monumental problems and 300 million+ peasants earning less than $1 a day, China has money on hand, and can launch its own stimulus package with far less strain on its coffers. Also, its domestic financial system has been relatively unaffected, while that in the US has been gutted.
Some are far more pessimistic about China’s future. Deported human rights activist and former Sakharov Prize winner Wei Jingshen sees a veritable “tidal wave” of demonstrators threatening the very existence of the Party. John Pomfret says he’s “agnostic” on the question of which country is better poised, but I think if you read his post on the subject it’s pretty clear where he stands, referring to the “irrational exuberance” of those betting on China. The argument will go on for years, and of course for all our passionate exchanges, there’s still no one on earth who knows.
Like last year’s presidential election, we’ve got another horse race to watch, one with far greater consequences. The way the world’s leaders handle or mishandle this albatross will affect each of us for years to come, maybe for the rest of our lives. I increasingly feel this is not a recession, it’s a depression, and we’re pretty much there. When companies that were seen only months ago as robust report profit losses well above 50 percent, and when you think of the effect their factory closings and layoffs will have right down the food chain, from plastics manufacturers in Dongguan to a family in the Dominican Republic waiting for the monthly check from their daughter working as a nanny in NYC, you can’t help but shudder. Nor can you help but be glad that at this moment you’re in China, as everyone who attended last night’s forum agrees. There are still opportunities and untapped markets here, and most importantly, customers with some cash to spend. Right here in Beijing.