Has China Just Hit Stall Speed?

The Financial Times reports that the Chinese sovereign wealth fund Huijin will buy shares in the four biggest banks in a move to goose the flagging stock market, which is at its lowest point since early 2009. This is the first time the fund has made this sort of intervention since the onset of the crisis.

The stock market is arguably even more important in China than in the US. With yields on bank deposits chronically well below inflation (and the spread between the two rates continues to be much worse than we are now experiencing in the US), investors are almost forced into risky assets. Since there is no domestic bond market to speak of, that means, for the most part, stocks or real estate (we have also heard of the stockpiling of commodities, such as base metals).

But the stock market may well be sending an accurate signal that China’s economic model is under duress. We’ve commented repeatedly that there has never been a large economy that has had 50% of its GDP consist of exports and investment. And before you say, “China is an emerging economy, it can absorb a lot of investment” the evidence is against that. The supposedly sclerotic US took $4 to $5 of debt to generate $1 of GDP growth on the eve of the crisis. As of 2009, it was taking $7 of debt to generate $1 of GDP growth. And China has been raising interest rates to dampen domestic inflation.

We linked to a post last night from MacroBusiness we thought were even more troubling on this front but comments suggest most readers did not take notice. It suggested that Chinese real estate has just hit the wall:

The National Day Golden Week is ended in China. Traditionally, the Golden Week (or more broadly, September and October) has been a peak season for real estate sales for China.

No longer.

The increasingly tough purchase restrictions in some cities and credit and monetary tightening have crushed the transaction volumes across the country for the best part of the year, even though prices haven’t moved much lower on the whole. Nonetheless, real estate developers are already feeling the impact of low transaction volume, namely problems with their inventory build up and cash flows as they are unable to sell as many properties as they planned. Developers have probably counted on September and the Golden Week, but the Golden Week has turned sour.

Shanghai, for instance, experienced the worst Gold Week holiday in 6 years. Only 398 units were sold in the primary market for the entire the 7-day long holiday, which is only 20% of the same period of last year (in other words, sales dropped 80% year-on-year) according to cnyes.com. According to Xinhua, one developer in Jinan tried to sell their flats by offering gifts like iPads and other electronic products, but without much success. Beijing has been doing somewhat better according cnyes.com, as 866 units were sold in the first 6 days of Golden Week, only 10% fewer than last year, but 62% lower compared to the first week of September. In Nanjing, one developer even offered a buy one (house) get one (flat) free (BOGOF) according to Xinhua, as that developer has failed to sell those houses since December of last year.

In other news, CREIS data shows that home prices in 100 cities in China fell in September on a month-on-month basis by 0.03%. It does not sound significant, though it is the first month-on-month fall in 13 months. With the on-going weakness in terms of transaction volume and the increasing pressure on developers, more price cutting should be expected in the coming months and quarters.

MacroBusiness points out that retail spending is still up about 6% in real terms year to year, so the debt crisis hasn’t yet hit the real economy. But the flip side is consumer spending is under 40% of GDP in China and higher interest rates will slow and potentially even halt growth in investments, which has been the biggest driver of GDP increases. Finally, recall the pattern in the US and other advanced economies: the financial crisis hit first, the real economy hit followed.

While China, thanks to its command economy, may avoid a full bore financial crisis, it isn’t at all clear how it can sustain the level of growth needed to preserve social stability (generally considered to be 7% to 8%) with the current stresses becoming more acute.

This post originally appeared at naked capitalism and is reproduced with permission.