IMF’s China debt warnings are eerily familiar

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International Monetary Fund Managing Director Christine Lagarde has some disturbing thoughts on China's debt. Photo: Reuters/Jacky Naegelen

The International Monetary Fund shouldn’t expect much warmth from Beijing these days. Its latest annual health check on Asia’s biggest economy is blunt, sweeping and sure to ruin Xi Jinping’s month as the Chinese president tries to maintain a veneer of omnipotence and stability.

The IMF’s worry, of course, is debt. It’s seen this horror film before in neighboring Japan and the odds of a happier ending for China are negligible.

“International experience suggests that China’s credit growth is on a dangerous trajectory, with increasing risks of a disruptive adjustment and/or a marked growth slowdown,” the IMF said.

What’s fascinating, though, is that we actually have three Asian lenses through which to view China’s debt quandary, none of which paint a particularly hopeful picture: Japan, Southeast Asia, and South Korea.

The common-thread reality is that no matter which lens you prefer, China’s rise as a global superpower is stalling before our eyes and Beijing’s meddling is to blame.

A worker cleans the windows of an apartment block in Beijing's central business district. Photo: Reuters/Reinhard Krause

Risky activity in Beijing’s central business district. Photo: Reuters/Reinhard Krause

Beijing can boast all it wants about its Asian Infrastructure Investment Bank, “One Belt, One Road” adventure, and dominance in the South China Sea. But every nascent superpower needs to get the fundamentals right at home first. On that score, Xi’s China is failing in ways that imperil the global economy.

Japan comparisons get the most attention.

Indeed, when the IMF calls on China to “accelerate needed reforms and focus more on the quality and sustainability of growth,” it could just as easily be speaking of Japan, circa 1987.

China’s excesses are being fueled by a compliant central bank; an opaque shadow-finance system feeding dueling bubbles in credit, stocks, and property; and an enabling government.

China’s excesses are mounting, paradoxically, amid a this-time-things-are-different ethos of the kind that colored Japan’s rise.

China’s excesses are mounting, paradoxically, amid a this-time-things-are-different ethos of the kind that colored Japan’s rise.

If you walked into any American bookstore in 1987, best-seller racks were loaded with titles handing the future to Japan Inc. Well, not so much.

And yet the word on China is that it’s similarly unstoppable and run by geniuses defying the laws of economic gravity. We’ll see.

Southeast Asian comparisons focus on the region’s epic overcapacity in 1997 and China’s today: massive liquidity channeled from state-linked banks into politically-connected companies.

This institutionalized misallocation of funds warps incentives to build a vibrant private sector focused on innovation, productivity and global risk-management norms.

Beijing no longer has a pegged currency, but it obsessively steers the yuan in ways that distracted Thai, Indonesian and Malaysian officials back in the 1990s.

Likewise, Beijing suffers from a quantity-over-quality dynamic when ginning up gross domestic product.

Around the nation, dozens of cities that the outside world has barely heard of are racing to build six-lane highways, international airports, massive stadiums, shopping centers and white-elephant museums that will go underutilized over time.

Twenty years on, Southeast Asia is still grappling with the fallout from its boom times.

The Korean comparison, though, may be the most tantalizing.

The Korean comparison, though, may be the most tantalizing.

Observers are still struggling to understand what’s behind Xi’s hasty and panicky crackdown on a handful of companies — Anbang Insurance Group, Dalian Wanda Group, Fosun Group and HNA Group.

Two months ago, these conglomerates were the pride of China Inc., the vanguard of Beijing’s desire to spread its tentacles around the globe.

Many of the Communist Party bigwigs looking over Xi’s shoulder reveled in Anbang last year buying New York’s Waldorf Astoria for $2 billion and Fosun’s Guo Guangchang being compared with Warren Buffett.

Beijing now fears how their excesses, all financed with debt, imperil the national balance sheet. China, it seems, has a Korea-like chaebol problem on its hands.

The reference here is to the giant, family-run conglomerates that toppled Korea in 1997 and still hog up most of the economic oxygen today. Top-heavy China Inc. has a similar tail-wagging-the-dog problem.

For an economy growing about 6.7%, China’s 235% ratio of debt to GDP might not seem too alarming. But as Japan, Southeast Asia and Korea taught us, beware official data when national pride is at stake.

For an economy growing about 6.7%, China’s 235% ratio of debt to GDP might not seem too alarming. But as Japan, Southeast Asia and Korea taught us, beware official data when national pride is at stake.

So when the IMF says of China that “since 2008, private sector debt relative to GDP has risen by 80 percentage points to about 175%,” assume the magnitude is much greater.

Even at these levels, almost certainly overly optimistic levels, “such large increases have internationally been associated with sharp growth slowdowns and often financial crises.”

China won’t necessarily crash in the near future. But this fanciful view that its rise is unstoppable when it’s built on such flimsy foundations needs blunt revision, and fast.

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