
The Macroeconomics of Chinese kleptocracy - alecco
http://brontecapital.blogspot.co.uk/2012/06/macroeconomics-of-chinese-kleptocracy.html
======
cs702
There are a lot of things I don't understand about China's economy, and every
time I think I might have a handle on it, I come across juicy tidbits like
these ones:

* The ghost city of Ordos. Built _on spec_ for one million residents, this city sits empty in the middle of nowhere. A lot of money went into building all its plazas, museums, parks, office buildings, and residences, but no one needs or uses any of it.[1]

* The New South China Mall, in Guangdong Province. With nearly 10 million square feet of retail space, it's _by far_ the world's largest mall. Opened in 2005, almost no one ever visits it, and only around 1% of the retail space has been leased -- it just sits empty. A lot of money went into building it, but no one needs or uses it.[2]

* A well-known hedge fund manager recently reported that China is building "2.8 billion square metres of Class A office space over the following couple of years... That’s basically a five-foot by five-foot office cubicle for every man, woman and child in China.” A lot of money is going into building _a new cubicle for everyone_ , but what's the economic rationale?[3]

[1] Here's a recent BBC article on it:
<http://www.bbc.co.uk/news/magazine-17390729> and a great photo essay in Time:
[http://www.time.com/time/photogallery/0,29307,1975397,00.htm...](http://www.time.com/time/photogallery/0,29307,1975397,00.html)

[2] Here's a recent video of the mall on a Saturday:
<http://www.youtube.com/watch?v=Eel1r1nm1lU> and here's an article about it:
[http://www.dailymail.co.uk/news/article-1223747/Ghost-
mall-T...](http://www.dailymail.co.uk/news/article-1223747/Ghost-mall-The-
worlds-largest-loneliest-shopping-centre.html)

[3] For example, see [http://www.theglobeandmail.com/report-on-business/rob-
magazi...](http://www.theglobeandmail.com/report-on-business/rob-
magazine/chanos-calls-china-syndrome/article596067/?page=all)

~~~
shimon_e
A city for one million residents is very small for China. Most of the time
such a place would only be called a village. I lived in another ghost city in
China for a few months. Suddenly, over night the city filled up and everyone
was told they must work in a certain industry. Previously there was some other
small industry (e.g. a shipping company with a few trucks with using the
street as a warehouse and local services like a laundry mat). They were all
kicked out because they were not the designated industry. The laundry mat re-
opened a few weeks later on another street.

People forget that China is a command economy. The government tells you where
to live and what to do. If you want to live somewhere else or do something
else you need to apply for permission from the government.

Cities like Ordos shouldn't make anyone blink. Once the government knows what
it wants to do it will be filled overnight.

~~~
westiseast
Sorry, but you're just 100% wrong. You're describing some version of China
from the 1960s, not today.

People in China are not told where to live, or what job to do. The government
makes use of various macro-economic tools to steer the economy much more
forcefully than in Europe perhaps, and perversely, the market forces (w/
Chinese characteristics!) are also fairly brutal and fast-changing, but people
mostly choose their own professions and locations and in many respects,
society behaves pretty similarly to the US/Europe.

~~~
thebooktocome
> People in China are not told where to live, or what job to do.

Not directly, no, but the hukou system still exists, and the choice of living
location is in some circumstances still heavily restricted.

------
trevelyan
This post does not pass the smell test. Yes, there is a lot of corruption in
China and the political elite is enriching itself at the expense of the public
and private sector. One mechanism for this certainly involves the government
suppressing interest rates on bank deposits, and then directing banks to
provide loans to preferred enterprises, which often engage in real estate.
This is not actually a horrible approach to development since it keeps the
government from having to finance everything up-front and a lot of the time
the projects actually end up working. But sometimes it leads to non-performing
loans and everyone knows there is much more of this than is claimed.

But even so the alarmism doesn't make any sense. If we multiply the amount of
state-acknowledged NPLs at the largest five Chinese banks (~300 billion RMB)
by an order of magnitude and we still only have 500 billion USD in bad assets.
Sure this is a lot of money, but the Chinese government has previously dealt
with the NPL issue by dumping cash into the banking sector and will doubtless
continue to do so if necessary to maintain the status quo. 500 billion dollars
still pales in comparison to China's more than 3 trillion in foreign currency
reserves, so who cares? In reality, this system is actually sort of preferable
since no-one can effectively loot state currency reserves yet, so bailing out
the banks gets the money back into play.

To the extent there are stresses in the system, its that real estate
development has been on the rocks since 2008 and prices are getting past the
point where people can throw themselves into practical servitude in order to
buy property. If you follow the Chinese media, right now it looks like the
bubble will play out with local governments buying properties from cash-
strapped developers at inflated prices (bonus question: guess who will issue
the loans to finance this?) in order to turn them into social housing projects
(bonus question two: guess who you need to be related to in order to get
apportioned these assets?). Since it seems likely the poor are going to get
screwed regardless, the real losers in the coming years are Chinese citizens
locked into 30 or 40 year mortgages on underwhelming properties who will soon
find themselves doubly-screwed as cash-strapped localities who can no longer
charge real estate developers such inflated prices for real estate switch to
issuing property taxes instead.

~~~
jasonwatkinspdx
Interesting that you feel the need to start your refutation with nothing more
than "smells bad." To me that reads like you don't even believe your own
envelope arithmetic enough to not throw in some superfluous rhetorical
support.

~~~
trevelyan
Huh? The post claims non-performing loans are some sort of poison pill for
Chinese economic and political stability. The point of the back-of-the-
envelope calculation is to show this isn't the case using some simple math.
The blogger could easily have run those numbers himself.

And the reason I said "smells bad" instead of "wrong" is that China is complex
and some things that seem wrong on first pass might actually be right. As far
as I know, for instance, the blogger is also wrong when he implies that the
big four are holding significant amounts of Treasuries on their balance
sheets. The reason I believe this is because the People's Bank of China
sterilizes currency inflows and monopolizes currency exchange. So the banks
which are the most exposed to non-performing SOE debt should not have the USD
to invest in US Treasuries and it should mostly be the PBOC which handles
Treasury purchases. Googling for terms like "ICBC" and "US Treasury Bonds"
suggests this is in fact the case since it doesn't pull up any documents
suggesting ICBC is buying Treasuries. But maybe the bank is awash in them and
the blogger knows something other people don't? China is strange. It could
happen.

~~~
jsn
> he implies that the big four are holding significant amounts of Treasuries
> on their balance sheets

What? Where? The only mention of "big four" in his text is about big audit
firms being silent about evidence of fraud perpetrated by big Chinese
companies.

~~~
earl
I think gp meant the big 4 state owned commerical banks: people's bank of
china (pboc), construction, industrial + commerce, and agricultural

[1]
[http://en.wikipedia.org/wiki/Banking_in_the_Peoples_Republic...](http://en.wikipedia.org/wiki/Banking_in_the_Peoples_Republic_of_China)

------
ridruejo
John Hempton (the author of the blog) is awesome, thought the crap he has to
deal with is usually not. I find his accounts fascinating, kind of an
Australian Michael Lewis mini-me. You can take a look at another post from him
of a couple of years ago taking a look at Linux/Windows/Apple
[http://brontecapital.blogspot.com.es/2010/08/fund-manager-
ex...](http://brontecapital.blogspot.com.es/2010/08/fund-manager-experiments-
in-geek.html)

------
narrator
Negative savings rates are fine, as long as capital is created and the price
of goods produced by that capital is falling due to efficiency improvements.

Where you get the boom/bust is when increased investment and loans creates a
feedback loop with the money multiplier causing prices of assets to increase
in value even as the supply of those goods increases. Production is encouraged
to become wasteful and inefficient because inflation and production taking
place over time takes care of the profit margin. When the credit runs out,
interest drags the prices back to their non-inflated money supply value and
you get debt deflation and doom and gloom covers on The Economist.

China fixes debt deflation by printing the money and handing it to the banks
in exchange for their bad loans. In the west, the way things are set up, for
better or for worse, we have to borrow it into existence and pay it back with
interest, further burdening the tax payer and forcing government austerity.
China can take care of the moral hazard that comes with printed money bank
bailouts because the government has political control of the financial sector.
The government routinely tells banks to stop lending to certain sectors and
slaps very specific regulations on to what kind of people and on what terms
bank can lend to borrowers. In the west, we like to let the "free market" run
things which is why we got rid of Glass/Stegal, etc.

~~~
jasonwatkinspdx
I don't see how what you're saying addresses anything in the article. What am
I missing?

~~~
crdoconnor
It sounds like "kleptocracy is fine provided it doesn't cause a boom/bust
cycle".

------
chaostheory
It's always interesting to focus on China and I definitely do not disagree
with the article. However based on the subject, what is happening in China is
also happening elsewhere; especially in the West. I think it's also important
to look in the mirror and get our own house in order first.

~~~
kylebrown
Right, corruption is a global pandemic. Who can say how much the bids are
rigged in awarding US military-industrial contracts (funded both by US
taxpayers and global dollar-demand), to say nothing of state and local gov
contracts (eg NYC paying $632m for a 911 phone system upgrade[1]). And wall
street fleecing everyone else, as usual.[2]

The article makes some very insightful points, but I'm not convinced that
Chinese SOEs are more evil than any other centers of power (just one
manifestion of growing inequality). One casualty overlooked here are Chinese
SMEs: "The real problem is the limited presence of other financial
intermediaries and the rudimentary nature of bond and equity markets, both of
which poorly serve the needs of small private companies and local
governments."[3],[4]

The author is right about deflation as the sandtrap up ahead, but that's just
the consequence of a decelerating economy and we're still to see how soft/hard
China lands. In doing a root cause analysis, one can chase down endless trails
corruption. But if you want to find a problem which can be solved with a
technological solution (as opposed to a social solution), it comes down to a
distinct lack of progress in energy tech. Productivity gains in IT just
haven't been enough to offset the rising cost of energy (as argued by Peter
Thiel)[5]. Sure, the rising cost of energy is tempered a bit during
deflationary cycles. But its a lose-lose, because so is economic growth
(harmed both by too much inflation _and_ deflation).

1\.
[http://yro.slashdot.org/story/12/05/31/1953210/comptroller-a...](http://yro.slashdot.org/story/12/05/31/1953210/comptroller-
accuses-hp-of-overcharging-nyc-163m-on-911-system)

2\. [http://www.nytimes.com/2012/06/10/business/banks-could-
retur...](http://www.nytimes.com/2012/06/10/business/banks-could-return-a-
favor-to-governments-fair-game.html)

3\. [http://www.bloomberg.com/news/2012-06-05/tall-tales-about-
ch...](http://www.bloomberg.com/news/2012-06-05/tall-tales-about-china-s-
banks-hide-economy-s-problems.html)

4\. [http://www.bloomberg.com/news/2011-11-06/china-credit-
squeez...](http://www.bloomberg.com/news/2011-11-06/china-credit-squeeze-
prompting-suicides-along-with-offer-to-sever-a-finger.html)

5\. <http://www.youtube.com/watch?v=XRrLyckg8Nc>

------
harrypreston
In China, a married couple who are both only-children can actually have 2
children. This was an alteration to the policy made in 2010 and was exactly
designed to stop the 4 grandparent problem.

Ref: [http://www.cbc.ca/news/world/story/2009/10/28/f-rfa-
germain....](http://www.cbc.ca/news/world/story/2009/10/28/f-rfa-germain.html)

------
fleitz
Except for the one child policy and a few other specifics I'm not sure that
the poster is actually talking about China.

------
yaix
The article forgets about the big business of the local gov'ts in China, who
are the driving (selling) force behind the building boom. It is correct, that
investment in real estate is the best options for most lower and middle class
Chinese.

The local gov'ts expropriate the land from peasants and sell is for housing
development. In the absense of substantial tax income, this is the one
important source of income for cities and towns. There is often no legal way
for people to fight the expropriation, because executive and judicative powers
are all in the local party's hand.

------
twelvechairs
It doesn't take a genius (or quite so many words) to come to the conclusion
that when the economy is growing fast corruption starts and when the economy
slows down the poor will get angry about cortuption.

That said - I'm not really for predicting the future in narrative form like
this because it is very one eyed. There's plenty of signs pointing in other
directions as well.

------
quantgenius
Based on the comments it seems many people are missing out on some of the most
important points the blogger is making.

First, a very large percentage (maybe 40-50%) of Chinese companies going
public on Western and developed Asian exchanges have turned out to be complete
frauds. There have of course been some very large companies that have been
very successful and they are likely completely honest, but there are also
many, many often smaller companies who's financial statements are pure
fiction.

It turns out that the biggest beneficiaries of the frauds were politically
connected families, yet none has been prosecuted. The Chinese had decided to
open things up a little bit, essentially taking baby steps towards the Western
model and require companies to file at least a minimal amount of information
domestically and to make some this information theoretically publicly
available. Furthermore when a company goes publicly in most markets outside
China, it has to file a whole smorgasbord of financial information.

Most of these frauds were uncovered by a careful examination of financial
statements companies going public were required to file. A number of the
frauds were in fact discovered by this blogger himself (see his earlier
posts). In many cases the financial statements were just ludicrously
implausible. In other cases they were listing facilities which did not exist
etc. Very few were in anything other than plain view.

Remember that this really hurts honest Chinese companies (and there are many
high quality Chinese companies that do things by the book) because you are
going to have to do far more due diligence on a Chinese company because you
can't really rely on the financial statements. Even after you do due diligence
you are going to demand a discount. While there is a mania for anything
Chinese by naive retail investors everything seems fine if you are a small
company with a limited float but for a huge company trying to raise a lot of
capital, you have to raise money from well informed institutions.

While companies that only list domestically are harder to do due diligence on,
it seems, based on work done by the blogger and others, that the percentage of
frauds listing on the Shanghai exchange is at least as high as the percentage
of frauds listing on foreign exchanges.

Imagine if 40-50% of US companies going public over a period of time were
frauds and this was discovered through their public filings. Legislators and
regulators would be lining up to require more disclosure. Instead the Chinese
have now changed the law so Chinese companies have to file less information
and the information they do file is practically a state secret. This is
somewhat akin to companies trading on the NYSE filing absolutely NO financial
statements and the SEC and Congress preventing anyone from seeing what they
did file.

Especially given that in the few cases where it is possible to trace the
ultimate beneficiary of the frauds, it has been a politically connected family
member, none of whom have been prosecuted, it is hard to ascribe any reason to
pass rules restricting access to company financial information other than a
desire by the elites to steal as much as they can through stock fraud.

------
meatsock
do they really have see-through apartment buildings in china or is that a
mistranslation?

~~~
dynamichype
I'm going to possibly expose myself to some ribbing by assuming this this a
genuine question instead of a statement that just presses the joke.

By "see-through" I assume the author refers to (mostly motel style) apartment
buildings that are completely unoccupied or even unfinished and hence they
lack blinds, drapes, furniture, (and sometimes walls). Thus, you can
completely "see-through" them from street level.

You can---by the way---see the same phenomena in the American South where
gulf-relief zones made building (or to start building) new apartments/condos
in some areas practically a tax-dodge but where the natives in those areas
don't have the means to buy them at even a quarter (sometimes eighth) the
cost.

~~~
dynamichype
I'm not sure about in China, but in the South another way such buildings are
"see-through" is that the buildings were built elevated over completely empty
parking lots.

There are streets where you can see two or three streets over "through" these
empty parking lots.

------
superslug
I dont get it.. when the Western nations steal resources from other countries
(Oil,natural resources,scientists etc) its considered growth or "preserving"
interests... when the chinese or any other non-westen countries do this its
considered a kleptocracy?

sounds like sour grapes to me...

------
gringomorcego
I wonder if anyone actually understood what the one child policy would have. I
mean, was this predictable? Did the Chinese government know it was going to
create this situation?

------
drstrangevibes
lets just say that they learned from the best ;)

------
elchief
Sounds slightly less corrupt than Wall Street.

~~~
planetguy
There should be a name for the phenomenon on the internet whereby any article
about any phenomenon in any non-US country of the world will inevitably result
in someone piping in with _"oh yeah? it's even worse in the US"_

~~~
drstrangevibes
yeah its called 'highlighting hypocrisy'

