More info dripping out regarding an inflation problem which ultimately weakens a currency.

Earlier reports showing US Treasury holdings falling and State dollar debt growing point to the same thing, as does
the reports of govt. efforts to ‘tighten’ policy via reductions in the growth of lending etc.

China Inflation Seen at 15% With Wen Jiabao Losing Boom Control

By Bloomberg News
April 8 (Bloomberg) — “Look at the scale of this,” said
Li Chongyi, an engineer, as he watched a 4-kilometer line of
trucks and earth movers busy quadrupling the size of Chongqing’s
Jiangbei International Airport. “This will take years.”
Jiangbei, which begins work on a third terminal when the
second is done next year, is one of 15 trillion yuan ($2.2
trillion) in projects begun in 2009, almost twice the economy of
India. Most were started by local governments as China’s
stimulus package sparked a record 9.6 trillion yuan of loans.
The projects and their loans are stymieing efforts by
Premier Wen Jiabao to curtail investment as inflation rose to
2.7 percent in February, a 16-month high. Failure to rein in
local government spending could push inflation to 15 percent by
2012, said Victor Shih, a political economist at Northwestern
University who spent months tallying government borrowing.
“Increasingly the choice facing the government is between
inflation or bad loans,” said Shih, author of the book
“Finance and Factions in China,” who teaches political science
at the university in Evanston, Illinois. “The only mechanism
for controlling inflation in China is credit restriction, but if
they use that, this show is over — a gigantic wave of bad loans
will appear on banks’ balance sheets.”
Attempts to curb borrowing by raising interest rates would
boost debt-servicing costs for local governments. At the same
time, tightening credit may stall projects, triggering “a
build-up of bad loans,” the Basel, Switzerland-based Bank for
International Settlements said in a quarterly report in December.

Debt Rising

Nomura Holdings Inc., Japan’s biggest brokerage, estimates
local government projects started last year totaled up to 10
trillion yuan — 2.5 times the official 4 trillion yuan stimulus
plan. The Chongqing Economic Times reported April 6 that the
city plans to spend 1 trillion yuan on another 323 projects.
Construction companies working on projects begun by
provincial governments may be shielded from a wider slowdown in
China’s property market, said Ephraim Fields, a fund manager
with Echo Lake Capital in New York.
“These vital, long-term projects should get the necessary
funding even if the overall economy slows down a bit,” said
Fields, who holds shares of China Advanced Construction
Materials Group Inc., a Nasdaq-listed concrete maker that gets
more than 75 percent of its sales from government infrastructure
projects.

Cement Stocks

Roth Capital Partners also favors Beijing-based CADC. The
company’s stock may rise 52 percent to $8 within a year, the
Newport Beach, California-based fund manager forecast. BOC
International analyst Patrick Li recommends buying Xinjiang
Tianshan Cement Co., which he forecasts may gain more than 15
percent, and Tangshan Jidong Cement Co., which may rise almost
23 percent. The projects begun in 2009 will help China’s cement
output rise 11 percent, or 186 million tons, this year, Li
predicts.
Chongqing, China’s wartime capital on the Yangtze River, is
a prime example of how provincial governments multiplied the
effect of the central government’s stimulus plan. The city had
900 billion yuan in loans and credit lines outstanding at the
end of 2009, said Northwestern’s Shih. Chongqing’s economy
expanded 14.9 percent last year, with investment in factories
and property expanding the most in 13 years.
“Chongqing really stood out,” said Hong Kong-born Shih,
35, who joined Northwestern in 2003 after completing a PhD in
government at Harvard University.

Roads and Rail

Chongqing’s projects include a light rail system that will
receive more than 10 billion yuan in investment this year.
The city will spend at least 8 billion yuan on rail
construction and another 15.5 billion yuan on 288 kilometers
(179 miles) of new expressways. Jiangbei airport said it plans
to raise passenger capacity to an annual 30 million when Phase
II is completed next year, from 14 million in 2009. Phase III,
would raise throughput to 55 million passengers.
The municipality’s construction boom has boosted business
confidence and the property market, said Bruce Yang, managing
director of Australia Eastern Elevators Group (China).
Sales at Eastern Elevators surged 51 percent in 2009, aided
by projects such as a local-government office block in Nan’an
district that needed 20 elevators, Yang said at the company’s
headquarters in Nan’an. He has an order this year to install 23
lifts in a government-sponsored hospital near Chengdu in Sichuan
province.

Macau Bridge

Chongqing isn’t alone. Sun Mingchun, an economist with
Nomura in Hong Kong, estimates local governments have proposed
projects with a value of more than 20 trillion yuan since the
stimulus package was announced in November 2008. They include
high-speed rail links between Wuhan in central China and
Guangzhou in the south, the Hong Kong-Macao-Zhuhai Bridge, and
the construction or upgrading of 35 airports. The economic
planning agency says 5,557 kilometers of railways and 98,000
kilometers of highways opened last year.
The building boom boosted construction and materials stocks,
raising concerns of a bubble. Baoshan Iron & Steel Co. rose
almost 74 percent since the stimulus was announced while Anhui
Conch Cement Co. gained 135 percent. The Shanghai Composite
Index rose 80 percent in the period.
Construction of high-speed rail lines linking Xi’an with
Ankang and Datong in Shaanxi province have pushed CADC’s output
to capacity, President Jeremy Goodwin said in a phone interview.
“The demand is so great we are struggling to keep up,”
said Goodwin.

Burst Bubble

Should the boom end in a property-market collapse, even
those stocks tied to the local government projects will be
affected along with most other industries, said Shanghai-based
independent economist Andy Xie, formerly Morgan Stanley’s chief
Asia economist.
“Corporate profits are very much driven by the property
sector,” said Xie. “The largest sectors will be hit hard,
especially banks and insurance companies.”
A gauge of property stocks has fallen more than 6 percent
this year after more than doubling in 2009 as the government
takes steps to cool rising prices, including raising the deposit
requirement to 20 percent of the minimum price of auctioned land.
Property sales were equivalent to 13 percent of gross domestic
product last year.
“Policy makers may need to start thinking about how to
handle the aftermath of the bust,” said Nomura’s Sun.

Lending Target

Policy makers have also moved to tighten credit. The
central bank is seeking to slow lending growth by 22 percent to
7.5 trillion this year.
China’s local governments set up investment vehicles to
circumvent regulations that prevent them borrowing directly.
These vehicles borrow money against the land injected into them
and guarantees by local governments, said Shih.
Chinese officials have pledged to limit the risks posed by
these vehicles. China plans to nullify guarantees provided by
local governments for some loans, said Yan Qingmin, head of the
banking regulator’s Shanghai branch, March 5.
The World Bank said on March 17 that China, the world’s
third-biggest economy, needs to raise interest rates to help
contain the risk of a property bubble and allow a stronger yuan
to damp inflation.
“Massive monetary stimulus” risks triggering large asset-
price increases, a housing bubble, and bad debts, from financing
local-government projects, the Washington-based World Bank said
in its quarterly report on China. The World Bank raised its
economic growth forecast for China this year to 9.5 percent from
9 percent in January.
The financial burden of those measures on local governments
means that “loose liquidity conditions” will persist for
longer than they should, said Shen Minggao, a Citigroup Inc.
economist in Hong Kong.
Any effort to quickly exit stimulus policies would lead to
“an immediate increase in non-performing loans in the banking
sector,” he said. “To avoid a credit crisis, Chinese
authorities may have to delay a policy exit in the hope that
time remedies the pain.”

2 Responses

  1. “Increasingly the choice facing the government is between
    inflation or bad loans,”said Shih, author of the book
    “Finance and Factions in China”

    Or an ELR right?

    We will always have some malinvestment, the question is where will the backbone of government fiscal policy be placed in the economic beast. It sounds like China is placing it in local government.

    Post-Keynsians seem to believe placing the fiscal policy backbone smack in the underemployed labor market would be better. Stiffen labor throughout its core and the rest of the economy will thrive with its support. Makes sense to me, though fiscal policy direct at local government is probably a not too distant second best.

    Currently America/ROW places the fiscal policy backbone in the financial sector with all its metastasized legal forms. Fiscal policy directed at the financial sector really doesn’t provide support to the rest of the economy, rather it enables what currently is a parasite. Not very good political policy.

    1. Putting fiscal stimulus at the bottom, where it is most likely to be consumed stimulates investment by increasing demand for goods and services. Putting stimulus into the financial sector to increase lending is ineffective, because poor people that could spend cannot borrow and business isn’t going to borrow to invest if there is insufficient demand. Duh.

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