China’s Bubblebath – Updated

Monday, February 19, 2007 23:41

For the last three years, the word bubble has been a word that many have used when describing China’s recent assent. Following the Tech Wreck of ’00, Asia Crisis of ’97, and fall of Eastern Europe before it, many thought a broad based macroeconomic “hard landing” was imminent in China and that without serious reform in the banking sector, trimming the trade surplus, and curtailing overinvestment China would fall like a rock from the sky.

The problem is that China is not silicon Valley, it is not Hong Kong, it is not Poland, and it is certainly not Japan. Sometimes it feels like it while listening to venture capitalists talk about “having to be here”, or to freshly minted M.B.A.s from the world’s leading institutions showing up in mass, but this economy is not built on high technology, on propped up real estate, nor from a power vacuum.

It has been built in the span of 3000 years of dynastic change that over the last 20 years has come together into what we call modern China. It started with Deng Xiao Ping proclaiming “It doesn’t matter what color the cat is as long as it catches the mouse” and opening the doors of investment into Shenzhen, and it continues to this day as multinational companies large and small look to China as a place to manufacture, sell, and invest in.

Yet even with planes and hotels packed with foreign executives trying to make sure they do not miss it, many companies and foreigners have a difficult time grasping just how it is all possible.

American executives and reporters are typically the first to scream “BUBBLE!” as the scars for them of Silicon Valley are still very fresh. However, with no one from this generation having seen this level of development from a country so big, it is often easier to dismiss it as a bubble then see it for what it really is, the birth of an economic powerhouse.

In many ways what I have seen in my five years is no less than what I imagine my great great grand parents saw in their time following their American arrival in 1810 mixed with what my parents have seen since World War II. The difference is that the metamorphosis that took American 150+ years to complete is taking place as a rate exponentially faster than that of the United States.

In 1850, American only a few cities like New York, Boston, and Philadelphia that were considered to be the first tier cities of the United States with others like Atlanta, St. Louis and Pittsburgh considered second tier, much like China today. The wealth of the United States historically was concentrated in 13 states on the East Coast, much like China is now. A hundred years later, the wealth spread as America changed drastically as the baby boomers moved from the farm to the city, and by 2020 China expects to move 400 million people off the farm to the city.

Unlike the United States though, China has a number of successful models that it can study in this process and use to overcome obstacles at a much faster place. Rather than build infrastructure 1.0, maintain and upgrade it, and then completely change the system to infrastructure 3.0, China is able to put infrastructure 3.0 in to start with. Many are amazed by the pace at which change can happen here, and how the same changes in their home countries would take 3-4x as long. Shanghai alone has constructed 4000 high rise buildings in the last 10 years… that is four times the amount found in Manhattan.

With all this growth, and all this change, there comes risk. A basic finance lesson will teach students that the level of return should be in par with the level of risk. so, the higher the risk, the higher the return that should be expected. China is no different.

There are a million things that could go wrong, and in many ways that is half of the excitement here. The risk of over building, the risk of people getting left behind, the risk of mismanagement, etc, and in China these risks are magnified by the pace by which things move here. However, these are not bubbles…. these are not things that pop and drain an economy.

To call China a bubble economy is to not understand China or the dynamics behind “China”. As we have shown on a number of occasions, China is highly fragmented and regionalized, and is not one “market” but a series of markets that are within the borders of one country.

So, with this in mind, we will spend some time discussing the great China bubble bath to give you the reader more insight into just what makes this place tick, and what “bubbles” exist on a regional, provincial, and national level that when viewed together are the great China bubble bath.

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4 Responses to “China’s Bubblebath – Updated”

  1. Victor T says:

    February 22nd, 2007 at 1:35 am

    I think there are definitely bubble aspects here. Real estate? The stock market? Not every individual asset is overvalued, but certainly many things are. And while China is growing very quickly — the rise in asset prices has significantly outpaced the real economy. Another way to say this is that asset prices are discounting a very, very rosy future for China. And I’m not sure that’s warranted given the politics and the structural problems. Nobody is saying that China’s growth is a complete facade, but that’s not what an asset bubble implies either…

  2. rbrubaker says:

    February 22nd, 2007 at 3:00 am

    Hi Victor,

    Thanks for stopping in.

    Every market in the world has over and undervalued assets, but in mainstream press the question of a \”China bubble\” does come up and little effort is made to qualify the statement.

    When looking at stock exchange vs. real estate, a wider range of investment alternatives is desperately needed to manage the airflow. While I will cover it in future posts, this is actually one of the biggest concerns I have when it comes to China…

    Thanks again.

  3. Chris W says:

    February 23rd, 2007 at 2:47 am

    The China economy is managed way to much for there to be a bubble too large. And, if it has to pop, the economy is managed way to much for there to be critical fall-out. People would do better to look after their individual investments and diversify plenty, than to talk armchair macroeconomics.

  4. rbrubaker says:

    February 23rd, 2007 at 3:36 am

    Hi Chris,

    Armchair macroeconomist… that is a new one for me.

    From a personal perspective, I would agree in that maintaining focus on one’s investments should be a primary focus, but I think that there are a few items that could result in a wider macroeconomic event.

    I am sure I am biting off more than I can chew with this topic, but it is my blog and I am just trying to generate interesting discussion.

    Hope to see more of your comments in the future posts.