China Bubble Burst

Apoorva Jain Kaushambi Ghosh Sumeet Jalan1

Capital Market Intelligence

Agenda

• Factsheet

• The Bubble Burst

• Components

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Factsheet

• Biggest customers of China’ s steel, United States and Europe, are struggling in respect of infrastructural development and hence its exports are down more than 20 percent

• China is still throwing up good economic growth

• Now the United States and the rest of the world is retrenching, corporations are slashing their spending and consumption level have also gone down

• This means that the consumption of Chinese goods is on the decline

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Industry friendly

Government policies

High import of raw

materials

Growth in

Employment

Overcapacity of

production

Need for

increasing Exports

Need to lower

product price

High industry

growth

Decrease in

wage

Currency

depreciation

Selling off

foreign

investment

High LiquidityInflationRise in Interest

Rates

High Non-Performing Loans

Bubble burst

Bubble Burst

Industrial Policies

• An undervalued currency, which reduces real household wages by raising the cost of imports while subsidizing producers in the tradable goods sector

• Excessively low interest rates, which force households, who are mostly depositors, to subsidize the borrowing costs of borrowers, who are mostly manufacturers and include very few households, service industry companies or other net consumers

• A large spread between the deposit rate and the lending rate, which forces households to pay for the recapitalization of banks suffering from non-performing loans made to large manufacturers and state-owned enterprises

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Industrial Policies

• Sluggish wage growth, perhaps caused in part by restrictions on the ability of workers to organize, which directly subsidizes employers at the cost of households

• Unravelling social safety nets and weak environmental restrictions, which effectively allow corporations to pass on the social cost to workers and households

• Other direct manufacturing subsidies, including controlled land and energy prices, which are also indirectly paid for by households

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High Industry Growth and import of raw materials• China’s GDP grew at 11-12% over the 2002-2007

• China's economy grew 7.1 percent in the first half of 2009

• High Imports

– Copper: Imports of copper rebounding from July and August slowdowns to post a 87% rise from a year earlier. M-o-M import increased by 23%.

– Iron-ore: Imports also hit a monthly record, at 64.55 million tons in September, up 65% from a year earlier. China bought a record 64.55 million tons of iron ore in September which is 30% increase M-o-M.

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Overcapacity of production

1. Steel

– China´s crude steel production for September 2009 was 50.7 mmt, 28.7% higher than September 2008

2. Cement

3. Plate glass

4. Coal-chemical industry

5. Polycrystalline silicon

6. Windpower equipment

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Source: Department of Industry of the NDRC

Actions planned

• China is working on plans to curb excess capacity as the nation faces “severe oversupply”

• The government may have detailed plans on how to close obsolete mills, advance mergers and reduce the number of iron ore importers by the end of the year

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Increase in exports and lowering of product price• Exports

– Overcapacity leading to huge stockpiling

– Limited domestic demand

• Lowering of Product price

– Low wage

– Depreciation of currency

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Loan and Foreign currency position• China’s new yuan-denominated loans in September rose

to 516.7 billion yuan (75.68 billion U.S. dollars) from August’s 410.4 billion yuan

• New yuan-denominated loans in the first nine months stood at 8.67 trillion yuan, 5.19 trillion yuan more than the same period last year

• China’s foreign exchange reserve hit a new high of 2.2726 trillion U.S. dollars at the end of September

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Liquidity Position

• The broad measure of money supply, M2, which covers cash in circulation and all deposits, was up 29.31 percent from a year earlier to 58.54 trillion yuan at the end of September

• The narrow measure of money supply, M1 (cash in circulation plus current corporate deposits), was up 29.51 percent to 20.17 trillion yuan

• This was a consequence of the massive stimulus plan put into motion by the Chinese government. They pumped unprecedented amounts of liquidity into their economy to offset the world-wide economic slowdown.

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Liquidity Position

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Thank You