Manarin Investment Counsel, Ltd.

While most American Manufacturers and politicians are upset with China’s currency manipulation, the article below presents a contrarian view. The author argues that China’s currency manipulation helps American consumers and is equal to approximately $100 billion in foreign aid to the US.

http://www.american.com/archive/2011/december/why-we-should-thank-the-chinese-currency-manipulators

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Ignore what the left media says about China. Enjoy the following article from Financial Research Center, Inc (800-542-5018)

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One can’t help but be struck by the irony of The Wall Street Journal’s recent publication of two editorials, just two days apart. In the first, the president of the Service Employees International Union (long-time supporter of the Democratic Party and frequent guest at the Obama White House) published on Op-Ed piece entitled “China’s Superior Economic Model.” In it, he implored Americans to learn the main lesson of history, namely that free-market capitalism is an abject failure, and to embrace the Communist Chinese model of economic growth. A model that relies exclusively on government controls on capital – choosing which projects will be green lighted and which denied the necessary funds to get a project done. In his estimation, such direction allows a government to force nations to use their capital to build labor friendly projects. Projects like low-income housing, new office space, cloud computing centers, and of course, green energy technology.

 Just two days later, the editorial page of the same newspaper listed a few inconvenient facts that all those supporting the totalitarian model of economic growth have so far chosen to ignore. Specifically, the paper points out that nearly all the government directed investments made in China over the past three years have been a gigantic waste of money. In a desperate attempt to avoid the economic slowdown that afflicted the rest of the world in 2008, the Communist Party mandated an unprecedented public works program financed primarily by statecontrolled banks. The result was a “country littered with luxurious county government offices, ghost cities of empty apartment blocks, unsafe high-speed rail lines and crumbling highways to nowhere.” The Journal editorial also pointed out that all these unproductive investments have one huge drawback. Namely, that the hugely undercapitalized banks now face the prospect of defaults on at least 50% of their loans. Since the Chinese economic “miracle” was always the result of the booming real estate market, it is safe to assume that the current collapse in that market spells the end of good times in China. The editorial cites UBS economist Jonathan Anderson, who points out that 20% of China’s economic growth is dependent on the real estate market, a market where prices are in a “free fall.”

 Welcome To The Hard Landing

It seems particularly odd to me that so many people would be rushing to embrace the “Chinese Way” of running an economy when each day brings news that the Chinese economy is in big, big trouble.

 Let’s start with inflation. The believers in China cheered the news that the Chinese inflation rate had fallen last month. The official position is that the annual inflation rate is now 5.5%, down for the 6.2% rate admitted to a few months ago. In fact, all observers of the China economic scene understand that the Chinese Communist Party routinely underreports the level of inflation in the country. This is accomplished in a number of ways. Since the Party controls the media, it simply produces a number it feels the markets will find acceptable and has that number published in the papers; other times it simply makes it illegal for a company to announce that is has raised prices. Of course, reporting that there is a low inflation rate does not make it so. The Chinese money supply continues to explode higher as an ever more desperate Communist Party tries to keep economic growth from stalling. They know only too well that they are sitting on a powder keg of discontent. Without the creation of new jobs, the Party fears the despised “peasants” from the countryside will rise up and throw the Communists from power.

 This is why the Politburo member Zhou Yongkang had recent remarks he made to provincial officials published by the official Xinhua News Agency. In his remarks the “law-and-order czar” (so-called by the Associated Press) warned that China was ill-prepared for social unrest caused by a weakening economy. He called for new ways to approach social management, suggesting the country needed to prepare to react with force should unrest over the economy start manifesting itself through worker demonstrations. Anyone familiar with the Tiananmen Square Massacre back in 1989 knows what the Party official was trying to telegraph to those who would cause social unrest.

 Yet, despite the obvious willingness on the part of the Communists to meet unrest with physical violence, that violence continues. Just recently a mob of hundreds of people attacked and destroyed four police and government cars after an incident where police failed to show up for more than two hours after a truck struck and killed a little girl in the city of Xi’an. These types of incidents are growing more common in China as the people grow weary of a central government that preaches equality but practices something very different.

 You can be sure this unrest will only grow worse if the Communist party can’t find a way to keep the economy rolling along. Despite averaging double-digit growth over the last decade, China is still burdened with immense poverty and tens of millions of unemployed and underemployed workers. The decision to ignore the growing inflation problem in the country is a sure sign that that the Communist Party bosses understand that these unhappy people represent a clear and present danger to their cushy positions of power.

 In just the past week it has been admitted that both China’s manufacturing sector and its service sector contracted last month. The Purchasing  Managers’ Index fell to 49.0 in November, down from 50.4 in October. As you know, any number below 50 is a sign of a shrinking economy. Blame for this decline was spread around. Part of it was due to a cooling domestic market, led primarily by a property market that is seeing prices drop at an alarming rate. The other part of the equation is exports.

 Europe is the single largest export market for China and the sovereign debt crisis on that continent has taken its toll on growth there. It is estimated that Europe has already fallen back into recession due to the lack of credit available. While the recent decision by both the U.S. Federal Reserve and the European Central Bank to improve liquidity will help, there is little doubt that the Europeans are facing a sustained period of below trend growth. The Chinese, who have foolishly constructed an economy that is highly dependent on exports for growth, are feeling the pinch. At the same time, China faces even more pressures to allow its currency to appreciate against the dollar in the coming year. This suggests that a very big portion of their growth model could be missing in 2012.

 As for their plans to boost domestic growth by funding yet another massive domestic stimulus plan, one must ask how they are planning to pull it off.

 The Chinese Banks Are A Disaster

Despite all the praise coming from American Progressives, the Chinese model of picking and funding the “winners” of the Chinese economy has been a total bust. While the rest of the world (especially America), has spent the last three years writing down debt and rebuilding balance sheets, the Chinese have embarked on a massive campaign to expand debt.

The result has been predictable. The U.S. economy has regained the GDP level last seen back in 2007 (before the credit crisis toppled the economy into the worst recession in some sixty years) while the Chinese piled even more debt onto their already debt laden economy. 

The projects funded have not been chosen for their ability to produce future growth. Instead, they are chosen based on how best to keep a restive population gainfully employed - so they don’t have time to contemplate making changes to the political system. The result, as we have documented over the past year, is a country filled with useless roads, empty cities and unused airports.

The secret to success in a Capitalist system is that a desire to make a profit produces plans for projects that will bring a return on investment. This allows investors to pay back their loans and gain access to new credit for their next project. In China, profit is an unknown concept. This has led to trillions of dollars spent on projects that either produces sub-par returns, or produces projects in which every last dollar is lost. Only by periodically cleansing the books of state-controlled banks of these bad loans does the Communist Party maintain the illusion that the country’s economic model is self-sustaining.

 The truth is that the Chinese are going broke. Plans to provide more stimulus by building 700,000 new public housing units annually is an economic dead end. Eventually, the Chinese trade surplus with the U.S. will disappear and the $25 billion in foreign currency they are pulling in every month will stop flowing into the countries coffers. That too will put a major crimp on their domestic growth.

 There is much talk of the Chinese using their $3 trillion in foreign reserves to help bailout the Europeans. The Chinese have said that is not going to happen. I believe they can’t afford to use this money to bail out the Europeans because they know that money is going to be needed to bail themselves out once this shell game of an economy they have created breaks down.

 Add this all up and you get a China that is growing increasingly risky, from both an economic and political point of view. Because the Chinese Communist Party is sure to look out for its own interests first, you should never expect, as an investor, to be protected by the rule of law. It does not exist in China, and will not any time soon. When things go bad those who own hard assets in China will discover that the Government will not hesitate to confiscate everything to hold onto power. This includes balances in investment accounts and banks as well as any and all assets owned by foreign companies, including the companies themselves. China’s government is all about looking after the Communist Party. Unfortunately,

it will catch the world by surprise when they discover that the Communists are willing to break any contract and confiscate all property currently owned by foreigners should it prove convenient for them. Keep this in mind any time you hear that it would be wise to be investing in China. The day could be coming when every last dollar of those investments aren’t worth the paper they are printed on.

 As final proof of just how scared the world is becoming at the thought that the Chinese could become the world’s next Mega-Power, I give you the country of Myanmar. This country has been an international pariah for decades as its ruthless military junta suppressed the population’s freedoms with ruthless efficiency. Democratic activist Aung San Suu Kyi, long the symbol of this suppression, has been subject to house arrest for roughly sixteen of the past twenty-two years. The rise of China has so spooked the highly secretive dictatorship that they have begun an effort to woo U.S. support to protect them from Chinese hegemony.

 Secretary of State Hillary Clinton recently travelled to Myanmar (the first U.S. official to travel to that country in fifty years) and met not just with government officials, but also with Suu Kyi. The government has allowed

hundreds of political prisoners out of jail, slackened controls on free speech and changed the laws that curtailed public protests. There is talk of still more prisoners being released and new elections, in which Aung San Suu Kyi will be allowed to participate.

 In addition, the government of Myanmar has recently canceled a hydroelectric dam project in the country that was to be constructed by the Chinese, to provide electricity to China. That a country as poor as Myanmar was willing to stop such a project gives you an idea of just how scared the ruling class is that they are fast becoming nothing but a puppet regime, controlled by their Chinese overlords.

 Thawing relations with Myanmar is only part of the story. You must also consider the new naval base the Australians have asked us to open in their country. Additionally, you have the entreaties of several of China’s closets neighbors that the U.S. become even more involved in both trade and military security in that part of the world. All these things suggest that the rest of Asia has become all too aware that it needs American protection.

 Two things must happen for this to work. First, these countries must be willing to live by trade pacts that give the U.S. a fair shot at exporting as many goods and services into Asia as we import from Asia. Second, they must be willing to share the cost of providing the strong defense needed to keep the Chinese at bay. If both of these goals can be achieved, China and the threats it represents can be contained.

 Under these circumstances, the so-called “Chinese Century” will likely prove to be another “American Century” after all.

— David C. Jennett

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Conventional wisdom tells us that trade deficits are always bad for the economy. Once again, conventional wisdom is anything but wise

http://www.cato.org/pub_display.php?pub_id=13197

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You might be surprised.

http://www.youtube.com/watch?v=_ocVj6UWiDI

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From Scott Grannis: [The Chinese] sell us mountains of cheap goods, then turn around and invest most of the proceeds (equivalent to our trade deficit with China) in U.S. Treasury securities. We get the goods, and we get to keep the money. Then we devalue the dollar, and they lose on their investment. Why we would want them to stop doing this is beyond me, though if I were a Chinese citizen, I would be furious with my government for directing such massive quantities of my country's export earnings to Treasuries. The central bank of China has no need to further increase its already-massive reserves; instead, the government should be relaxing capital constraints, allowing Chinese citizens more freedom to save and invest abroad in the types of vehicles with which they feel most comfortable. China's workforce is aging daily, and like Japan a few decades ago, China's economy cannot accommodate all the savings of the Chinese people—they are essentially forced to save overseas.

Contrary to what you read in the press—which mistakenly believes that our large trade deficit with China is something we need to worry about—China is the one that needs to worry, not us.

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Those that invest in China may want to think otherwise is the message from portfolio manager and investment researcher Vitaliy Katsenelson in this piece in the Christian Science Monitor:

The world looks at China with envy.  China's economy grew 8.7% last year, while the world economy contracted by 2.2 percent.  It seems that Chinese "Confucian capitalism" - a market economy powered by 1.3 billion people and guided by an authoritarian regime that can pull levers at will - is superior to our touchy-feely democracy and capitalism. 

On the source of China's high growth:

... China kept its currency, the renminbi, at artificially low levels against the dollar.  This helped already cheap Chinese-made goods become even cheaper.  China turned into a significant exporter to the developed nations.

Normally, if free-market economic forces were at work, the renminbi would have appreciated and the US dollar would have declined.  However, had China let this occur, demand for its products would have declined, and its economy wouldn't have grown at roughly 10 percent a year, which it did during the past decade.

On what a Chinese meltdown could do to the the rest of the economic world:

It will tank commodity markets.  Demand for industrial goods will fall off the cliff.  Finally, Chinese appetite for our fine currency will diminish, driving the dollar lower against the renminbi and boosting our interest rates higher.  No more 5 percent mortgages and 6 percent car loans.

And perhaps the key perspectivve that makes us not want to invest in China:

[W]e have to remember that economic bubbles are usually just a good thing taken too far.  The Chinese economy is no exception.  Its long-term future may be bright, but in the short run we've got a bubble on our hands. 

Everyone wants a shortcut to greatness, but there isn't one.  China has been trying to bend the laws of economics for a while, and with the control it exerts over its economy it may seem it's succeeded.

But this is only a temporary mirage, which must be followed by a painful reality.  No, there is no shortcut to greatness - not in personal life, not in politics, and not in economics.

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Photo Credit: edhelien

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