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China's Great Wall of Debt: Shadow Banks, Ghost Cities, Massive Loans, and the End of the Chinese Miracle Hardcover – March 13, 2018
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From the Back Cover
"A superb, grassroots tour through the underworld of Chinese finance, an issue which -- much more than top-level power struggles or conflict with the United States -- could determine whether China becomes a true superpower or grinds to a halt under the weight of tons of bad debts."
About the Author
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The national government has prioritized stability by increasing the average citizens' quality of life. However, this was done with massive debt and the incredible GDP increase that has lasted year after year. The debt and resulting inefficiencies were survivable when you are posting 8 - 10% increases in GDP. Now that is slowing and China becomes closer to escaping the "middle income trap" - can the Chinese government reform its economy before it all crashes down? Dinny McMahon is not optimistic and is even less so now the Xi has consolidated power.
The book is an education --- strongly recommended as a third or fourth book on China. One thing every book on China needs is a good map of the provinces and major cities. The only problem with the book is the timing. Like the 2008 economic crisis -- everyone knew it was coming and there were warnings for years. The hard part is knowing when it would hit -- in that Dinny McMahon hedges his bets.
Top international reviews
His fluency in Mandarin has given him unique access to the Chinese people at all levels of society, from peasants to the highest echelons of the Chinese Communist Party, giving him an insight into the mentality of the Chinese people and their culture rarely understood by westerners. For me, one of the greatest surprises this insight brought was the inability of the Chinese government to reform their increasingly alarming debt crisis. McMahon describes how urgent Presidential calls for financial reform invoke ever more ways of circumventing the system. The government controls everything in China, but the increasingly complex financial system with its shadow-banking and private banks is making their control over the economy more tenuous.
Surprising too, are the cultural differences between China and the rest of the world regarding some of their worst business practices, such as deliberate adulteration of food and drugs. He describes many businesses with no morals about endangering health or even life in the cause of profit.
McMahon’s narrative is all the more personal with his numerous tales of farmers and property owners who have suffered at the hands of local and central government and state companies who have taken their land or homes with no compensation. Their land is used to build ever more ghost cities with vast, empty apartment and shopping complexes, parks and roads.
There is so much of interest in this book, from the reasons behind the massive debt to China’s protectionist trade policies with developing countries. McMahon describes China’s ambition to grow through the middle-income barrier to become the world’s dominant financial force, but then explains the economy is rapidly running out of steam. And how the Government is now encouraging two-children families in an attempt to fund the future health care and retirement of its ageing population.
This book is a non-technical fascinating insight into a financial world beyond most westerner’s experience, and the impact that world is having on our lives and those of the Chinese people.
I particularly like the individual examples told about, such as the farmer who had his land taken from him for property development without adequate compensation. It is also very interesting to note the power wielded by various factions, ranging from local government, through the oil companies and the salt monopoly, whereas the common concept is that there is supreme central power and control.
I used to visit Shanghai and Beijing on a regular basis from Hong Kong in the eighties and found the place to be somewhat 'spooky', possibly as a result of complete dependence on translators, etc.
While many things have clearly changed, the difficulties for foreign enterprises doing business in China and with the Chinese seem to remain.
If China does "explode", the fallout will be felt around the globe for a long, long, time.
Thank you Mr. McMahon for an excellent instructive and informative read. Very enjoyable.
The number of zombie companies are increasing in China. What is a zombie company? A zombie company is defined as the one which is heavily indebted, doesn’t generate enough revenue to pay their interest on debts, cannot reduce the principle amount and cannot be restructured as well. Their ability to repay interest depends on the continuous low interest rates. Astonishingly these companies are kept afloat by local governments. These loss making companies cannot pay corporate tax but they contribute to value added tax that’s collected on the sale of manufactured goods. Shutting down these companies means losing a big chunk of fiscal revenue. Local officials go out of their way to keep these zombie companies alive by forcing banks to lend money, finding another firm to merge it or forcing employees to take a pay cut. The said factors along with domestic protectionism and subsidies have resulted in Chinese industries capable of producing far more than actually needed. The upshot is that due to these zombie companies, the Chinese economy is stuck with all these extra factories, which undermines the health of entire industries.
Throughout China, there are hundreds of cities that have everything, required for modern urban lifestyle like high rise apartments, waterfronts and skyscrapers. One thing is missing but that is the most important one without which a city cannot flourish and sustain. The missing part is the people. These cities are built to the point of near completion before it’s being populated by people. During the interim period most of the building stood empty. The cities were built to accommodate millions of people but it however remained empty. Such cities are called ghost cities. There are also instances when a city became empty after people moved to other locations after financial crisis affecting that part of the region. Now regardless of the surfeit of ghost cities in China, it’s being dismissed by economists with respect to China’s big picture. Despite its proliferation, the economy hasn’t suffered. In pursuit of blind and mindless growth, the concept of urbanization has been hijacked by local governments. These are the products of unconnected local planning.
It’s difficult to measure precisely but China’s debt has been increasing at an alarming rate. The state owned companies have borrowed incredible amounts. Though the state firms contribute to only quarter of the economy but they account for 60% of all the corporate debt. These borrow from government banks ultimately means that government is responsible for it if something goes wrong. Did the loans given to the state firms serve any national interest? It’s not always. Only fraction of the debt can claim to be strategic. Somehow things have been managed in a latent manner as of now but future looks risky. The President Xi Jinping had said that China’s financial system have two great vulnerabilities- state owned firms and debt. The country has accumulated so much debt that economists predict a financial crisis, which is much extensive compared to Greece economic ruin.
Another factor which is not of immediate concern but may present a big risk in future is shadow banking. This is any nonbank credit that does not follow the careful and thoughtful regulation of an ordinary bank lending. It includes P2P, which is a decentralized model where two individuals interact to buy or sell goods and services directly with each other, without an intermediary third party. A P2P platform Yooli was launched as an experimentation and alternatives to state run financial system. It emerged during vast wave of financial democratization. Earlier people were starved of such options. Compared to bank, the returns are decent. This has been embraced by all strata of society. In terms of asset size relative to bank, it’s not a risk but the concern is the pace with which it’s growing. The irony is that counterintuitively, banks are involved. Shadow banking has also weakened Beijing’s control of the economy by allowing banks to lend more than the permissible limit. The banks have been adroit by designing the system as opaque, so that Beijing is not able to know how much credit they have generated. Banks have been also willing to accept third party guarantee to those companies which don’t have a collateral. Sometimes private companies too guarantee each other. Such arrangement has opened bank credit to a swath of small private firms. This threatened growth, stability and reform efforts.
Land exploitation has been one of the major source of popular unrest in China. Entire villagers have rioted against their land being taken by the government. The promoters and developers have teamed up with thugs to intimidate farmers. As per the law, the farmers have a claim over the land they cultivate. The farmers used to get thirty years of lease that prevents village chieftains from arbitrarily distributing lands in favour of family and friends. However, such leases provide no protection against the government officials next level up. In the guise of public interest, local government has the authority to acquire lands. Sometimes, amusement parks, ornamental lakes and golf courses are built on this land. Even if then land is not available, extreme measures are taken up by the authority. Now what is that? I was thunderstruck to learn that. Dongfeng Motor company is an automobile manufacturing company which has a joint venture with Nissan motors. Dongfeng asked for eighty acres of land from a city called Shiyan’s authority. The city however couldn’t provide that. So Dongfeng decided to move the headquarters of two of it’s unit. Fearing that the motor city could become an abandoned city, the government settled on a plan to create four hundred square miles of new land by levelling the mountain. Land is sometimes also reclaimed from sea to build factories.
In the 80’s , price of most of the things was set by the government. As things stand now, the government controls only energy prices and few freight rates. The communist government no longer controls the economy as it once did. The authorities are willing to open the shackles of explicit state control and replace them with markets. However, they still fully retain the right to intervene whenever they don’t like what markets are doing. The Chinese meddling makes the economy look opaque to not only foreigners but to the Chinese as well.
China has benefitted immensely after joining the WTO. It became world’s workshop producing mass market manufacturing goods and that too cheaper than anybody else. However, the price advantage is in wane. Quarter of American companies have moved some of their operations out of China or planning to do so because of rising cost. The wages have risen so much. The labour intensive industries like clothing and toys are moving in droves to places like Bangladesh where worker wage is quarter to their Chinese counterparts. Some are moving to Vietnam where wage is half as expensive in China.
Still amidst all these, there is a silver lining. The Chinese consumers have been playing a big role in driving the world economy. The automobile giant Volkswagen makes half of its total global sales in China. They are also contributing to one third of global sales of luxury bags and watches. American movies are now being more popular in China than locally made films. The ticket sales are so vital to Hollywood studio that they are casting Chinese actors for the role in the movie and that too in a positive manner. Chinese students in huge numbers are moving to USA, UK and Australia, thereby providing vital source of additional funding to overstretched institutions. Chinese seems to be ubiquitous, wherever there is an economic growth.
We love to pull China down. We love to highlight them in a poor light. Most of the aforementioned issues are a matter of concern in any developing nation. Why blaming only China. It’s success despite being a communist country has astonished the world. What to expect from this book? The book focuses on debt. Why and how state firms and local governments borrowed so much? How the financial system has accommodated them and why these things have been allowed to get out of hands? The book gives the narration on the mechanics of Chinese economy. The book is not about politics or senior Chinese leaders' insights. The book also does not mention anything about reform to clean up bad loans or close factories. The book is also not about bright spots like China’s effort to develop new markets through it’s much debated Belt and Road initiative. The book neither seeks to attempt to forecast when things are likely to unravel. Before going for this book, better align your expectation from it. If you have read “parable on blind men and an elephant”, then please recall. A group of blind men were asked to inspect an elephant by touch. The man who landed on the trunk felt it like a thick snake. The man who reached its ears felt like a kind of fan. To another man, leg seemed like a pillar. While for others, side was like a wall and tail like a rope. Each man had a different version of the animal. Now your elephant is China and a group of blind men suggesting that this elephant can never be interpreted precisely. The citizen never excoriates the government for definite reason. So it’s not easy to extract information from the citizen so easily. Still, the author has done a commendable job here in penning this book. It’s not easy to write on China due to its geographically large area, diversity, arcane political system, opaque economic system and the culture of secrecy.