Is China's Economy Really Collapsing? The RMB, Property, Local Debt and Banks
The answer is: not much. Natural forces are doing what natural forces do.
I said in my July 3 forecast that the RMB exchange rate had become uncontrollable. Uncontrollable does not mean bottomless. My gut feeling was somewhere around 8 within the next year.
People trained by China's stock market, including finance professionals, often understand going long but not going short. The market was clearly in a major bear phase. Smart investors had probably positioned for that already. I have no idea how many people or institutions made a fortune from leveraged shorts against the RMB.
Both bull and bear markets are part of the natural order. China's economy had moved into a broad bear phase. In one sense, that was a healthy process of squeezing out bubbles. The cost of doing it might be rather high.
The data looked terrible, but statistically the economy was not collapsing. Why? Liquidity. There was still plenty of it in the market. Companies and individuals who wanted loans could obtain them almost immediately. Everyday liquidity for households was also ample. Spending remained possible, and goods and supplies were abundant.
Wealth would divide further toward the two ends, with the middle class taking more punishment. The strange part was that the two sides might coexist peacefully, each convinced that life was not so bad.
That did not apply to highly leveraged companies, especially property developers. One foreseeable way to handle property debt was to package the debt and its collateral into a second round of securitisation, while stripping out poor non-core assets for restructuring or bankruptcy. A medium-sized problem.
I did not have enough data or information to analyse or forecast a wider financial blow-up, so I did not.
The bigger problem was still local government debt. Banks could keep it alive with liquidity and extensions, but keeping it alive would only make the eventual explosion larger. Local government debt is really a variant of sovereign debt, only with a different name and credit rating. Rate cuts could prolong its life. They could not solve it.
Rate cuts would hurt the banking system. Helping borrowers extend their debt would hurt the banking system too.
Tax cuts would put more pressure on local finances. Local governments might then issue more debt to relieve that pressure. That new debt would require lower rates and bank-supported extensions. A downward spiral.
Compared with other major economies, China's position might not even have been the worst...
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