Philippines and China: Between a rock and a hard place

China has a number of problems and some are not even visible to the rest of the world. Last year, China devalued its currency and their stock market which wreaked havoc in the financial markets. I think that was just a taste of what’s to come. The amount of debt being carried in the Chinese economy is now probably so high and complicated that it could lead to a financial crisis.

Debt-fueled and unsustainable growth
To put it in perspective, China manufactured more cement from 2010-13 than the US had produced over the entire 20th century. It has 1.5 billion tons of steel capacity, but “sell-through” demand of less than half that amount (the same is true for ship-building, solar, industrial industries). Millions of empty luxury apartments, over-built highways, fast rail, airports, shopping malls and new ghost cities.

“Creative finance”
The Chinese government doesn’t like bankruptcies wherein banks are “encouraged” to roll over loans rather than classify them as non-performing. So instead of extending more traditional loans (which have to be carried on the balance sheet), Chinese banks use a variety of “alternative” vehicles to lend money to borrowers who will likely default. That credit is carried as “investments” on banks’ books and that practice is simply straight out of what was done by banks in the 2008 financial crisis.

Additionally, there is an increasing number of Chinese companies taking on new debt to pay off old debt. Although this is normal practice but does the problem go away? NOPE.The problem with taking new debt to pay old debt is that — like a Ponzi scheme — ultimately creditors can't pay off their total debts. That situation occurred in the UK and US in 2007-2008, when mortgage-backed bonds collapsed, spurring a global recession. The key here is prudent use of the new loans.

Controlled reporting?
If you try to gather information about China, you won’t find much. Chinese media always paints the situation as “rosy” and most doom and gloom analysis are fairly recent, however, both S&P and Moody’s cut the sovereign credit outlook to negative in March with the IMF issuing economic warnings against China’s spiraling ‘corporate debt’ just this month.

Adding to that is the possibility of a large amount of shadow lending going on in the system not captured in official statistics with also unknown, unreported, and unregulated local government or municipal debt, which makes pin-pointing deep-rooted problems and potential financial stress very difficult.

Geo+Political factors
I am not an economic and political expert but I know that any movement of military requires resources. Much like the Philippines, the Chinese geopolitical reality is that there are divisions/problems internally that needs to be addressed (control of borders, terrorism and drug war) except that PH economy is going the opposite direction.

While the PH main concern externally is mostly China, the Chinese are up against US, Japan, some SEA nations – they are spreading their already limited resources too thin already.

Unlike the US and EU, if China fails – who will bail it out? Who knows, I’m not too worried about it.

“In the midst of chaos, there is also opportunity. The supreme art of war is to subdue the enemy without fighting.”? Sun Tzu, The Art of War

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The writer is an RFP® - registered financial planner of RFP PH, Licensed Real Estate Broker and Director of CERTA, Inc., a family estate planning and investment advisory firm. To know more, please visit www.certa.ph
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Originally Published in Philstar - The Freeman Newspaper last August 23, 2016.