China


Please read the fine post from immobilienblasen about price control in China. I want to dig a bit more into this topic.

Let start from the basics again. To simplify the things the world economy works as an entity that extracts natural resources from the Earth and process it into consumable goods. If you divide this entity into countries that are essentially sub-entities unified by some policy and other common properties of business units located in that country.

Each country has a particular competitive advantage in certain fields of processing natural resources and the logic of the world economy pushes those resources into this country. For example, Japan is very good in converting oil and silicon into flat panel televisions. So those countries who extract oil and silicon from Earth are sending them to Japan and then Japan sends those flat-panel TVs to the rest of the world. In case of Japan this advantage is in technology, patents and know-how.

In case of China the competitive advantage is the abundance of extremely cheap yet relatively qualified labor, concentrated along navigable rivers and backed up by business friendly government. There are many countries in the world with cheap labor but few of them are stable, qualified or accessible. The output from China is pretty much anything that is labor-intensive and can be easily outsourced from the West. Like plastic toys.

Now more about cheap labor. In the market economy there is a certain proportion between luxury, durable items and staples. For example, one day at ski resort will cost you the same as 10 bags of rice. The basket of consumable items will include the mix of staples and luxuries, both rice and ski resorts. The feedback loops between consumption of all those items creates this typical basket and the typical cost of labor in Western countries. Every kid in USA once in a while comes to Disneyland and this is a part of the basket.

Now very clever Chinese authorities came to a very clever idea (used in all Eastern European countries before) that they can subsidize the staples and change the proportion between various items. So the day at Disneyland (or ski resort) will cost not 10 bags of rice but 50 bags. So the typical consumption basket will include more rice and less Disney, overall supporting all the life necessities at cheaper price. The idea is that only a fraction of the country output is sufficient to be used for subsidies but overall it will make the labor artificially cheap and thus supporting the big trade surplus.

In the completely free market economy the China market would quickly adjust itself, the basket would be more expensive and include more luxury items and services, the price of labor would go up and the trade surplus shrink quickly. But this doesn’t happen.

So what is the conclusion? The world economy is in market equilibrium based on certain price of all goods. But the big player China is distorting the market mechanisms. First, they consume more natural resources than they would otherwise. Second, they produce more artificially cheap goods than they would otherwise. And this disproportion is widely based on subsidies that are coming from large trade surplus.

If anything in this artificial, non-market structure will start breaking the results may be disproportional the the cause because the market usually adjusts itself much better than any government structure. It looks to me like a big house of cards which is much more stable flat rather then tall

Today the Mortgage Bankers Association issued its latest report, and it’s seems like the housing bubble did not pop yet. At this point the continuing real estate boom is not a bonus to the economy, but rather a handicap. The amount of new real estate being in development far exceeds what market can absorb.

This kind of development is huge waste of resources. There are already “ghost towns” in Florida and in D.C., where nobody lives and all condos are for sale. All this useless activity consumes huge amount of money and natural resources. Money are lend by China to purchase oil and metals all around the globe on very inflated prices. The home-builders, despite huge prices, make only very reasonable profits.

So MBA reported that mortgage applications rebounded. But the grater amount of people are not bearing the mortgage they pay.

A greater proportion of mortgage refinancers tapped their home equity for cash in the first three months of this year than in any other quarter in the past 15 years, according to an analysis released yesterday.

The proportion of those taking ARM’s and other creative options is over 28%. The difference between 30-year fixed and 1-year ARM is only 0.49%, despite that more and more people just can’t afford even this fraction of a percent to pay. I predict that the absolute majority of those people will eventually default and lose their home.

The fed’s job at this stage is to force those people who cannot afford new home but are nevertheless buying it to stay where they are now. Bankruptcy is worse than staying in old home. This job is not done yet – keep working uncle Ben!

What impresses me the most in capitalism is how the market regulates itself. It is like a Phoenix that resurrects from ashes – it's not just the market that heals disproportions, but disproportions themselves are so organic and logical that I'm tempted to call them "the beauty of disproportions".

The motto du jour is "cheap labor conservative". What I see is not the malice of a secret "skull and bone" group that plans to make U.S. labor much cheaper, but His Majesty The Market is making it cheaper and there is no way around. The world is getting more round and there is no other way to feed 7 billion of people but to have the economy to be more efficient.

The efficient economy leads to globalization and globalization means the constant quest for more efficient labor. The more complicated jobs are constantly moving to the areas where people are most productive and simple jobs are constantly passed to areas where the labor is cheaper. But that also evens the labor contracts around the globe. If once upon a time the Chinese worker was paid 1,000 times less than U.S. worker, one day he will earn only 10 times less, probably after American worker will become 10 times cheaper and Chinese worker will get 10 times more.

The latest developments in real estate market show me how the American worker will eventually earn much less than in the year 2000. The magic trick is very simple, it is called real estate bubble. Those of us who were not smart enough (i.e. they are candidates to became that "cheap labor") are in the debt up to the eyeballs. Up to now it was fueled by real estate bubble. Not anymore. This article is very well describing the scenario of long struggle against the declining market:

If history is any guide, however, home prices won't peak for a while, said Edward E. Leamer, director of the UCLA Anderson Forecast. When the end of the Cold War caused consolidation of the defense industry, the number of home sales in the Los Angeles area peaked in November 1988 — but home prices didn't top out for nearly 2 1/2 years. “Then the prices began this gradual, painful, slow deterioration'' of about 5 percent a year, Leamer said.

“It's really slow, not enough to drive you totally crazy,'' Leamer said. “It's a little bit of pain every year. If you try to sell, you can't find anybody to buy, and the price is eating into your equity little by little. That's the kind of adjustment we expect to see.''

The families protecting their homes from foreclosure will work hard, for any pay, without strikes and labor unions, without healthcare and retirements. Like Chinese do.

Gutierrez, secretary of commerce, is bullying China that protectionist measures will damage China much more than United States. Those measures could be applied if trade deficit is not reduced. 

I'm sorry, Gutierrez, it's China who holds us by the balls, not vice versa. If tariffs are introduced, it's our economy that will slump, not Chineese. It will be 1973 in best case, 1929 in worst case. Let see the simple sequence of events.

The lack of cheap import will trigger inflation, which will make Bernanke to go ballistic and raise rates over 6%, which will just destroy the housing market at current prices. During the slide back to 1995 real estate prices all the construction business will flop, personal consumption decrease by huge amounts and stock market retreat back to 2002. The bad investment climate will stop capital inflows and make us live by what we earn. The borrowing spree will stop and both corporate and personal finances will force us to dramatically reduce the consumption. In other words, the quality of life will decrease a lot. You will see unemployment, crime, drugs and rock'n'roll all around.

And one of the main problems is the lack of brains in Washington, from the president Bush himself, who is a total idiot to the last Gutierrez.

In this BOP news article Ian Welsh describes, among other things, the strange symbiosis of US economy running on real-estate fuel and far eastern economies keeping low labor costs to keep the export growing.

I think one of the keys to better understanding the willingness of Chinese economy to subsidy the US consumers lies in the culture and mentality of Chinese people. Remember, we are different.

In Western civilization, God is giving. If you ask the American why he is ready to burn and spend all the money and resources given to him and live ruins to his children he will say that God gave him oil and money because he is a good Christian and God will keep giving to his children as long as they are good Christians, too. There is no way future generations will starve, the good Lord will fix that.

It’s hard for me to exactly understand the Chinese mentality, but not impossible. That country is based on the mix of Daoism and Confucianism. Confucius teached that only strong morality and respect of tradition must govern one’s wills. Tao is teaching that the world’s harmony is guiding the one’s steps the way this harmony is preserved.

To simplify things, it means that the most powerful Chinese minds are looking 1,000 years forward for questions and 1,000 years back for answers. Expecting that they would rush for immediate results is nonsense. They rather sit and think for 10 years changing nothing and then do it right rather than do something the way Uncle Bush is asking.

If the world harmony is seen the way it good to lend money to Americans now but to prosper 50 years later, then that’s the way it will be done. Please don’t ask questions, the answers are unthinkable for western mind.

The Brad DeLong’s blog published an article on US being a debtor nation. While I agree that the problem exists to the extend US economy may not maintain the habit of good living (should I say bon vivant?) without getting more into debt, I would not blame only US for that.

The other side of the medal is that growing eastern economies cannot maintain the desired rate of growth without keeping their currencies weak. But the weak currency and positive trade balance leave not much space to maneuver for their central banks to save in anything but western treasury notes, where best are americans.

It seems to me that the growing price of oil will “fix” that. The weak currency is bad silver when you come to the world oil market. To improve strong-arming capabilities on the commodity markets the East will have to raise the valuation of its currencies. Many ways to do so, like issue bonds with good coupon, allow foreign buyers to acquire more of assets or just money, – whatever they chose the imbalance will decrease.

Another question – will US maintain same standard of living when it happens, well, is another question 🙂

All the last few months the topic of protecting the US and EU markets from the cheap textile from China is popping quite regularly. The dumping prices put a real danger of eliminating many thousands of jobs and China is pressed to choose between tariffs, limits or re-evaluation of its currency. Their refusal to act seems inapproprial and they deserve sanctions – correct? Lets take a look.

The cornerstone of the World trade is a comparative advantage of each nation. That’s the main reason goods are crossing the border.

  • Saudi Arabia has oil.
  • France has cheese, wine, Mona Lisa, Chanel #5 and some other cool things. They don’t export fraise, though.
  • US have high-tech, good places to live, Hollywood blockbusters and military power to bite the shit out of anyone who has no enough liberty.
  • China has the abundance of cheap, disciplined and reasonably qualified workforce.

25% of the word population are chinese. If they say that they are properly positioned to supply the other 75% with panties and bras than this is what they have to be allowed to do, if we like the word “freedom”.