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Category: China Market Commentary
Hidden Wealth. China's Cash Out from Under the Mattress
Jim Trippon: Economy Expert

“How do they afford it? That’s one of the questions I am frequently asked by surprised travelers on my annual China Investor’s Field Trip.

My group of investors is always impressed by the huge scale of major Chinese cities and by their sleek, modern buildings. But they are also very interested in the spending habits of  China’s people.

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Six Reasons Why China Stocks Will Rise
Six Reasons Why China Stocks Will Rise

The Underappreciated Bullish Consequences of China's Yuan Move

The Underappreciated Bullish Consequences of China's Yuan Move
About: yuan, Shanghai Composite Index, China ADR Index, China's economy, Beijing, Bank of China, Chinese stock market, Chinese stocks

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I couldn't help but laugh as I read the first bloggers' comments about China's decision to allow the yuan to be unpegged for the first time in two years.

A fairly popular writer over at Seeking Alpha actually said that unpegging the yuan would be a nonevent in the short term! Some nonevent!

Monday morning proved that China's decision was in fact a global event. Stock markets from Tokyo to New York jumped immediately in response to the Chinese decision.

Investment indicators for China itself were even more dramatic. The Shanghai Composite Index jumped 2.9%, its biggest gain in a month. Chinese firms that consume resources from abroad also leapt on hopes that commodities would drop in price as the yuan rose. In New York, the China ADR Index jumped more than 2.5%.

It's true that the Dow Jones Index eased off after gapping up at the opening. But that doesn't change the fact that the expected rise in the yuan will be a huge event in the short and the long term.

#1 China Holds the Keys to Confidence

I believe the decision to unpeg the yuan is a major signal that China is confident about its own recovery from the global economic meltdown.

The move also sends a message that China believes its trading partners in the west will soon resume buying Chinese goods. Of course, trade in all of Asia is already on an upswing, driven strongly by Chinese demand.

Previously world markets have shuddered on every hint that Beijing might cut off its massive stimulus program. Defensiveness was the order of the day.

Raising interest rates to cool Chinese inflation was out of the question due to fears that the economic recovery might screech to a halt. During the global meltdown the yuan was pegged to the U.S. dollar for two years in hopes of protecting China's battered export industries. Now China is showing confidence that its most profitable industries are expanding rapidly enough to take up the slack.

China's economy will become more efficient and more profitable.

Here's why.

#2 China Will Become a Big Spender

A stronger yuan means that commodities, resources, services and finished goods from all over the world will be more affordable in Chinese markets.

Allowing the yuan to rise will give Chinese companies more buying power. That's why China Southern Airlines (ZNH) and CTRIP.com (CTRP) were the biggest gainers on the markets. Investors see the price of oil going down in China. That means travel will get cheaper and it will increase with the stronger yuan.

Global mining companies also gained on hopes that China would buy more resources. BHP Billiton (BHP) and Rio Tinto (RTP) are major suppliers of ore to China. Both jumped more than 3 percent on world markets.

Australia has been strong during the meltdown because of its raw material sales to China. News of the unpegging drove the Australian dollar to a one-month high.

Stock markets throughout Asia rose at least one percent on hopes for increasing sales to China.

Six Reasons Why China Stocks Will Rise

#3 It Won't be the U.S. Consumers to the Rescue This Time

China's middle class is quickly becoming a consuming class. The rising yuan will make them richer. Foreign goods will seem cheaper and more attractive.

Companies like Wal-Mart, General Motors, KFC and Motorola are all looking for gains. They're hoping that the growing purchasing power of Chinese consumers will mean gains at the cash registers.

Yum Brands (YUM) makes 30 percent of its sales in China and has plans to expand its Pizza Hut and KFC franchises. General Motors (GM) is one of many international brands looking to sell more parts into China's booming auto market.

You name the global product. Coca Cola, beer, cell phones or luxury goods, their makers are looking for increasing in sales to Chinese consumers.

That's good news for global brands and great news for the global economy.

#4 Finding A Balance

Nothing irritates the U.S. more than China's huge surplus in its balance of payments. Many here blame China for America's crippling foreign debt. Others blame China for stealing U.S. jobs.

Here's a key trend I've been watching lately. China's trade surplus is becoming much, much smaller than it has been in the past. In fact China actually had a brief trade deficit with the world a few months ago.

This trend towards balanced trade with the world can only improve as the Chinese yuan gets stronger. That's because a more valuable Chinese currency will buy more goods abroad. Countries with weakening currencies will be able to buy less, and that means a better balance.

The yuan won't be allowed to jump by a huge margin in the near future. The Bank of China has made that much very clear. This trend will happen over the long term. And that means a long-term easing of currency strains around the world.

#5 Squelching Inflation

I've been seeing a lot of hand-wringing in the financial press about China “overheating”. That's another way of saying China is growing too quickly. Inflation is becoming a threat to the economy.

Personally, I have always believed that the threat was exaggerated. China has the power to move consumer prices down dramatically on domestic goods.

Now, a strengthening yuan will impact foreign goods. Imports will become cheaper with every percentage point the yuan moves up in value. That's another weapon against inflation.

#6 The Political Bonus

China was afraid it would become the whipping boy at the upcoming G-20 meeting in Toronto. The thinking was that western nations would gang up to force China to raise the value of its currency. Bad idea.

Anybody who has been analyzing China as long as I have knows very well that would have created a backlash. Chinese authorities will never allow themselves to be seen as caving in to foreign pressure. Any effort to force China's hand at the G-20 would have resulted in an ugly fight. And it would have been a fight with no winner.

By acting in advance, China gets to set its own agenda. Some western critics will be mollified. Others will not be satisfied. But they'll have no way of knowing just how quickly China will revalue its currency so they'll have little to argue about. China simply won't allow the issue to be raised.

Inside China, I'm hearing that the latest move signals for a victory for moderates who are looking for a peaceful engagement in world politics and the global economy.

The losers are the more aggressive Chinese. Some wanted to pursue a path toward global economic and political dominance. That would have resulted in continuing confrontation between China and the west.

The Biggest Nonevent Ever

I hope you can see why this is anything but a nonevent. The stakes are global.

China's decision to unpeg the yuan sets the world economy on a path towards cooperation rather than conflict.

I much prefer the route towards global prosperity through cooperation and compromise. So, we have learned, does China.

 
Finally, Beijing Takes Action
Finally, Beijing Takes Action

China's Black Hole Investment and What's Being Done to Fill It

China's Black Hole Investment and What's Being Done to Fill It
About: China's economy, Beijing, stock markets, Chinese exports, Chinese stock market, Chinese stocks, China's real estate

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Beijing has done a great job of sparking China's economy. The global financial crisis continues. But China is almost out of the woods. Except for one big problem.

Just last Thursday China announced that its exports in May surged 48.5%. Imports into China rose by nearly the same percentage, 48.3%. Stock markets around the world surged.

China has enjoyed a stunning recovery from last year. The export – import increase also shows that China is driving world recovery.

But China's recovery has always held a dark secret.

Beijing has struggled for decades to stamp out shady investments among regional governments. Success has been mixed at best.

Anti-corruption drives are a part of daily life in the regions. But misuse of state capital is another matter. It has become a serious threat to the nation's recovery.

Investments in shell companies have become a real worry thanks to China's provincial and regional governments. Many have set up shell companies to steer state funds into real estate ventures. These development companies have contributed to China's real estate bubble.

They have been a boon to shady officials at regional levels. They have also contributed to a land rush – a rush that has driven up property values too quickly.

Bubbles are popular as long as everyone is making money. But bubbles are empty shells. They always collapse. And investors riding the outer edge of an expanding bubble always suffer in the implosion.

Edicts from Beijing to clamp down on regional governments haven't worked. There's just too much money to be made from shell corporations.

It's not just real estate that's in danger. Some regional shell companies have set up manufacturing facilities. The risk is that China will suffer from manufacturing over-capacity as a result.

Shady regional officials don't care about long term problems. They make their money through the financing and building of surplus ventures. They can make short term profits through land speculation and through shell property firms.

Finally, Beijing Takes Action

Finally, Beijing is taking credible action.

Rather than issuing orders which local governments ignore, Beijing is trying to turn off the financing taps.

On Sunday China clamped down on financing units that have caused a dangerous surge in local-government debt. Easy money has been available to the regions since Beijing launched its stimulus program with massive bank lending in 2009.

Many local governments set up special investment vehicles that borrowed from banks to fund infrastructure projects.

But will those debts turn into a huge black hole? Will they drag down banks and the whole economy?

Massive local debts are backed only by government land assets and promises. And that won't help if the property sector implodes.

Beijing is at least trying to prevent the problem from getting worse.

New rules say local governments must clean up financing to shell companies. These shells pretend to be viable companies. But they rely on the government to repay their debts. In other words they are not real businesses.

There are countless companies of this sort in China. They have contributed to fiscal expansion numbers. But they are empty shells. They might implode in a debt crisis like the one the U.S. suffered beginning in 2007.

Beijing is cracking down at the bank level. Banks won't be allowed to lend to regional companies that don't have a steady source of cash flow to repay loans.

This is a crucial change. Regional governments can ignore Beijing. National banks cannot.

Will this squeeze cause an implosion among existing companies? If so, China's banks will come under pressure from non-performing loans. But, a crisis like the U.S. mortgage crisis seems highly unlikely.

Banks reserve ratios have been raised three times this year as a protective measure. The central bank still has the reserves to bail out any banks that do get into trouble.

The upcoming IPO of the China Agricultural Bank is an example of huge state financing bailing out an insolvent bank. Beijing is determined. It will not stand by and allow a crisis to end China's recovery.

The good news is that Beijing did not stand by blindly, as Washington did, during the creation of a debt bubble. China's State Council, or cabinet, is taking every action possible to prevent the creation of new black holes.

China's black hole investments aren't going away anytime soon. But at least new holes won't be created and existing holes won't be allowed to get any deeper.