Salient to Investors:

George Friedman writes:

China has been in an economic crisis for a while, unrecognized outside China and particularly in the US.

Paul Krugman last week wrote in The New York Times that the signs that China is in big trouble are unmistakable, its economic system has reached its limits, and the only question now is just how bad the crash will be. Krugman said Chinese statistics are even more fictional than most. Ben Levisohn wrote in Barron’s that the markets seem to have accepted the fact that sluggish growth for China is its new normal. Goldman Sachs cut its forecast of Chinese growth to 7.4 percent.

The New York Times, Barron’s and Goldman Sachs are all both a seismograph of the conventional wisdom and the creators of the conventional wisdom.  We have gone from China the omnipotent to the realization that China no longer works.

China’s growth surge was built on a very unglamorous fact: Chinese wages were far below Western wages.

900 million Chinese have an annual per capita income at the same level as Guatemala, Georgia, Indonesia or Mongolia, of which 500 million have an annual per capita income at the same level as India, Nicaragua, Ghana, Uzbekistan or Nigeria. China’s overall per capita GDP is at the same level as the Dominican Republic, Serbia, Thailand or Jamaica. Stimulating an economy with more than a billion people in deep poverty is impossible.

Continuing aggressive lending to failing businesses results in inflation, but allowing them to fail brings unemployment.

The Chinese economy is  growing nowhere near 7.4 percent. Producing and selling at or below cost will boost GDP numbers but undermines the financial system – viz Japan in the early 1990s.

Japan had a lost decade only in the minds of Western investors, who implicitly value aggregate GDP growth over other measures of success such as per capita GDP growth or full employment.

The extravagant expectations for Chinese growth will not be met, and therefore expectations for commodity prices won’t be met – the degradation in prices has already happened.

Chinese will continue to invest in US government securities – China’s problem is not a lack of capital, and repatriating that money would simply increase inflation.

China’s role in the region will decline. Its ability to project military power in Asia has been substantially overestimated. Japan will re-emerge as the dominant economic and political power in East Asia.

China will no longer be the low-wage, high-growth center of the world.

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