The wrong kind of consumption

Since our last attempt at a textual analysis of where the economic pain threshold lies for China’s rulers, the intervening period has been punctuated by a flurry of meetings, pronouncements, prognostications, and policy precursors.

The net result? That anxieties are certainly rising; that there are some signs of intense political manoeuvring; but that Xi and Li have so far largely stuck to their guns.

Taking the politics first, two items stand out: the news that court proceedings will shortly commence against the disgraced Bo Xilai – wherein he will face charges mostly relating to corruption and the abuse of power – and the post-dated report of a meeting with Henry Kissinger at which former President and éminence grise, Jiang Zemin, fully endorsed the policies of his successor-but-one.

The timing of the first seems nicely calculated to neutralize critics on the left of the party and to preclude any haggling over Bo’s fate from taking place at the upcoming Beidaihe party summit, thus leaving the agenda free to thrash out the nitty-gritty of economic policy ahead of the crucial autumn Plenum.

The second, by contrast, seems to rule out any open, factional divide between pro- and anti-reformers and, taken with Xi’s subsequent re-iteration of his call to ‘deepen reform and opening up’, provides another re-run of the manner in which Deng Xiaoping outflanked Jiang himself on his famous ‘Southern Tour’ of 1992 (an event symbolically commemorated by Xi on his scene-setting first excursion from Beijing after being sworn in as General Secretary in December).

On that earlier occasion, Deng ringingly declared to the back-sliders who were threatening to unravel his grand designs that ‘whoever does not support reforms should step down’ – an implied threat whose resonance will surely not be lost on any of today’s doubters.

Categorizing this as a ‘strategic decision’, last week Xi urged ‘a spirit of reform and innovation’ and for the Party to display ‘ever more political courage and wisdom.’

‘China must break the barriers from entrenched interest groups to further free up social productivity and invigorate creativity,’ he went on. ‘There is no way out if we stay still or head backward.’

Again, the official press coverage of Tuesday’s Politburo meeting was replete with the usual litany regarding fine-tuning, prudent monetary policy, fiscal adjustment, greater efficiency, scientific developments, etc., etc. But, again it emphasized that macro policy should be stable (read my lips: ‘no – monster – stimulus’) and micro policies should be active.

Along these lines, Premier Li had already unveiled a mini-package which sought to ease taxes on SMEs, to expedite the formalities associated with the export trade, and to move up consideration of further railway construction out in the under-developed Wild West of the country. But, far from a reversion to type, this was seemingly so underwhelming that since he announced this, the prices of the likes of steel, coal, aluminium, and copper have severally resumed their slide.

Even the resort to fiscal policy seems to envisage a refreshingly different approach, coming as it does with an avowed intent to limit the budget deficit and reduce spending while alleviating the tax burden where possible. Is this a hint that Beijing will pursue a proper, stimulatory austerity of less government on both sides of the ledger in place of the deadening ‘fauxterity’ of less rapidly increasing outlays mixed with swingeing tax rises currently being practiced in the West? One would certainly like to think so.

Taken with the diktat which aims to address at least some of the worst heavy incidences of industrial over-capacity (a move said to be ‘key to restructuring’ in Xi’s own emphasis), the buzzword for policy seems to be what Li termed ‘sustained release’ – i.e., that there will be no big, blockbuster launches if indiscriminate lending or spending, but instead a steady drumbeat of hopefully therapeutic micro-measures.

On top of that, there was an intriguing reference to the idea of ‘enhancing a sense of urgency’ which was closely linked to the vow ‘to firmly grasp the opportunity for major enhancements’. Does this mean that Xi and Li are cleverly playing the anxieties of the moment in order to lessen resistance to their program of change? That through a strategy of masterly inactivity they will first disabuse the hordes of disobedient local cadres and SOE oligarchs of the presumption that they are all Too Big To Fail, leaving them no option but to adapt to the new policy thrust as the only alternative road to promotion and self-enrichment? It would certainly be nice to think so.

Along these lines, it surely cannot be a coincidence that the press has been filled with cautionary tales deriving from the bankruptcy just declared by Detroit. Nor that a veritable army of 80,000 audit officials is being mustered to go out and assess the true level of local government indebtedness across all levels from the smallest township to the largest central city. The result cannot fail to be chastening even if it is deemed not to reach the CNY20-25 trillion which lies at the top end of some estimates. No doubt there will be sufficient violations of central policy, accounting practice, and banking regulation, not to mention outright criminality for the tally to give Xi and Li a powerful means of seeing that their wishes will henceforth be complied with.

Before we leave this issue, there is one broader point which we must make: namely, that this thoughtlessly regurgitated idea that what China needs is more ‘consumption’ and less ‘saving’ is nothing more than yet another dangerous Keynesian canard.

What the country needs – what any country needs – is more consumer satisfaction, agreed!  But how this is to be most sustainably (not to mention most equitably) achieved is to ensure that the greatest possible fraction of production is geared to that end above all others. It should then be obvious that this is an endeavour that cannot fail to require investment: rationally-undertaken, market-oriented, ex ante, private savings-funded, entrepreneurially-directed investment of a kind that has been all too lacking in China, perhaps, but investment all the same – and a good deal of it, too, in a country where the average person suffers a standard of living still far below what could so easily be his to enjoy.

So, firstly, let’s be honest and reclassify all the sub-marginal, no-return-on-capital, ‘empty-asset’ ‘investment’ as what it really is – state-led CONSUMPTION and we will at once clear up a good deal of semantic confusion and hence lessen our chance of chasing off down the wrong macro-aggregate pathway.

China’s personal consumption may well be depressed below its potential – though the fact that households appear to save around a quarter of their income is not wholly exceptional in fast-developing countries, for how else is the growth to be funded?  No, the real crux of the matter is that China’s collective consumption (largely undertaken by soft-budget SOE’s and deficit-junkie governments) is far too high and so thoroughly lacking in genuine prospective return to be further borne. It should therefore be no part of policy to increase blindly the degree of exhaustive consumption – especially where this is financed via the top-down suppression of interest rates and by wholesale misallocations of a cartelized, ex nihilo creation of credit.

Of course, the making of such a shift will be by no means a trivial task either to initiate or to see through to its end if only because the piling up of IOUs and the complex layering of both direct and hidden subsidies which has enabled so much mindless, Krude Keynesian, Keystone Krugmanite, New Deal reduplication to take place has also provided employment for one multitude, a core of seemingly reliable customers for another, and – alas! – an unavoidable outlet for the hard-won savings of them both. Not only the most shameless and venal of the princelings will therefore have a strong, vested interest in trying to perpetuate the existing schema, however much people may be aware that it cannot be continued indefinitely.

As the stilted language of the communiqués puts it, the external situation is also ‘complicated’- in other words the patterns of trade upon which China and its neighbours have built so much of their recent prosperity are now displaying at best a dispiriting stagnation and at worst an outright decline.

Thailand is a case in point: exports to China thence are back to 2010 levels and are falling at the fastest pace since the Crash itself.  For all the ballyhoo about ‘Abenomics’ the specious glimmer of recovery there seems little more than money illusion. Industrial production has started to droop one more while, when rebased in the US dollars which are the regional standard, even exports are sickly – those to the rest of Asia are falling at their fastest rate since the Crash, also, to lie a good fifth lower than they did at the 2011 recovery peak.

No wonder the latest PMI fell 1.6 points to a 5-month low. Among the components, export orders were weak – mainly thanks to China – and there was evidence of a developing margin squeeze. As the report noted:-

Increases in the cost of raw materials due in turn to the yen’s weakness was cited as a key driver of rising input prices, which increased for the seventh consecutive month. Inflationary pressures were evident to a lesser degree in output prices, which grew at a slower pace than in June.

Weak PMIs were not exactly a rare occurrence, either. China, Taiwan, and South Korea all produced multi-month, contraction level lows.

What is perhaps of more concern is that, according to the latest IIF survey of emerging markets, not only were funding conditions in Asia becoming more straitened in the second quarter (in fact there were the worst of the four geographical divisions in the questionnaire), but loan demand was actually falling in all categories except real estate (where else?). Not a happy portent for vigorous second half growth and with it an enhanced call upon resources.