Is China successfully transitioning to consumption?

In recent years, people have been arguing that China needs to shift its economy from investment and heavy industry toward consumption.  My own view on that issue has been somewhat agnostic.  It’s inevitable that investment will slow as China becomes a developed economy, but it’s hard to say whether that transition has been happening too slowly or too quickly.

The 3rd quarter RGDP figures were just announced, and came in at 6.9%.  That’s ahead of analysts expectations, and well ahead of my 6% forecast for the next year.  I now think I was too pessimistic.  Here are some of the internals, from the FT:

Yet services growth remained strong in the third quarter, with nominal growth falling only slightly to 11.9 per cent annually from 12.1 per cent in the second quarter.

Stagnation continued in the industrial sector, however, where nominal growth was roughly flat at 0.2 per cent, down from 1.6 per cent in the second quarter. The statistics bureau does not break down real growth figures by sector.

Chart: Composition of China GDP growth

Economists agree that a long-term slowdown in Chinese growth is inevitable due to structural factors such as a shrinking labour force and the end of “catch-up growth” as China completes the transition from a rural to industrial economy.


Notice that in 2015 consumption is becoming the key driver of the economy.

There are a number of signs that growth may begin to pick up from this point forward:

Economists also expect the central bank to cut benchmark interest rates again before the end of 2015, as well as make another reduction in banks’ required reserve ratio. That would follow five rate cuts since November and three RRR cuts in 2015.

Though still weak, the real estate sector is now recovering modestly, with property sales growing 7.5 per cent in the year to September in floor area terms, up from 7.2 per cent growth in the first eight months. Property sales had contracted for 17 consecutive months through June on a year-to-date basis.

In addition, the first week of October (called “Golden Week”) saw very strong sales at restaurants and retailers, up over 11%.  Movie theatre growth during this week was astounding, up 200% between 2013 and 2015.

Meanwhile stocks are rising on speculation that there will be another round of SOE reforms:

Chinese stocks rose to an eight-week high as a government plan to reorganize the telecom industry raised speculation policymakers will accelerate reforms of State-owned companies to stem slowing economic growth.

The Shanghai Composite Index climbed 2.3 percent to 3,338.07 points at the close, the highest level since Aug 21. The CSI 300 Index gained 2.4 percent. China United Network Communications Ltd and China Mobile Ltd gained at least 2.7 percent after the government injected 231.4 billion yuan ($36 billion) of network assets such as base stations into a new company called China Tower Corp.

There is “speculation regarding another wave of SOE reform”, said Gerry Alfonso, a sales trader at Shenwan Hongyuan Group Co in Shanghai. “The economy is slowing down and a clear, but challenging way of supporting the economy would be to speed up the SOE reform. SOE reform remains one of the most solid investment themes.”

Hong Kong’s Hang Seng China Enterprises Index advanced 2.1 percent, while the Hang Seng Index added 2 percent.

Overall, China looks on track to achieve a successful transition from a heavy industry and investment-oriented economy to a consumer/services economy.  This will also pay big dividends in terms of pollution reduction.

I predict that the Chinese government will eliminate the one child policy within 2 years—that will help.

And I’m raising my Chinese RGDP growth forecast to 6.5% over the next year—I think I was too pessimistic at 6.0%.

For the US, I see 1.7% RGDP growth over the next year, slowing after that.



55 Responses to “Is China successfully transitioning to consumption?”

  1. Gravatar of Ray Lopez Ray Lopez
    18. October 2015 at 20:51

    Sumner wants a giant hug from the giant panda, which despite its fake smile is a fearsome, aggressive, unsocial animal. Kind of like Sumner himself? Go on, ban me, lol.

    In terms of consumption, I doubt China changes much, as traditionally ‘services’ are around 50% of an Asian economy, much less than the 70% or so in advanced economies. Japan is an exception, more like the West.

  2. Gravatar of Rajat Rajat
    18. October 2015 at 21:29

    Sorry, Scott, you may have addressed this in the past, but re your view that trend US RGDP growth has and is falling substantially, what do you make of the widely-noted fall in the prime age (25-54) participation and employment-to-pop rates? For example, see here: Obviously that reduction cannot be attributed to an ageing population.

  3. Gravatar of Ray Lopez Ray Lopez
    18. October 2015 at 22:35

    @Rajat – excellent graphs showing indeed structural changes in the US economy, not superficial stuff that a purported monetary bandage can fix. Of interest was that the over 65 yo labor market has been growing since 1999, while the 24-54 age group has been shrinking. Generation Y was a bust.

  4. Gravatar of 77yanks 77yanks
    19. October 2015 at 03:13


    when you get a chance can you comment on this Pettis piece thanks.

    Thin Air’s money isn’t created out of thin air

  5. Gravatar of bklyn77 bklyn77
    19. October 2015 at 03:18

    when you get a chance can you comment on this Pettis piece ? Thanks

    Thin Air’s money isn’t created out of thin air

  6. Gravatar of ssumner ssumner
    19. October 2015 at 05:59

    Ray, Why would I want to ban someone who talks about how “traditionally” services are 50% of Asian economies, and then exempts Japan?

    It’s like saying “traditionally Tesla has been a small share of the US auto market.”

    As long as you keep amusing me I’ll keep you around.

    Rajat, People like Kevin Erdmann have looked at this in much more detail than I have, so you should ask him. But I seem to recall that it’s mostly three factors:

    1. Changes in demographics within the 25 to 54 age group.
    2. A long term downward trend that has been going on for decades
    3. Rising disability roles.

    As I recall, when you account for all the various factors, there’s almost nothing left to explain, but I don’t recall the details. In any case, the discouraged workers who aren’t even trying to find a job at 5.1% unemployment, are not going to come flooding back in at 4.7% unemployment.

  7. Gravatar of ssumner ssumner
    19. October 2015 at 06:04

    yanks77, That’s a very long post, which paragraph do you want me to specifically comment on?

  8. Gravatar of benjamin cole benjamin cole
    19. October 2015 at 06:21

    China’s one child policy is already over…not enforced in rural areas, many provinces, not for minority ethnic groups, and in many individual circumstances. Interestingly enough, the birth rate in other nearby nations has plummeted nearly as much as in China, such as in Thailand.

    China grows by 6.9% and is declared a debacle…by Western economics bloggers…hoo boy…

  9. Gravatar of benjamin cole benjamin cole
    19. October 2015 at 06:23

    By the way, both Carnival Cruise and Norwegian cruise lines recently announced new 4000 or so passenger ships to be based in China. Construction is underway, and the ships cost hundreds of millions of dollars.

  10. Gravatar of collin collin
    19. October 2015 at 07:52

    I predict that the Chinese government will eliminate the one child policy within 2 years””that will help.

    I predict it won’t have much effect on long term birth rates as Far East urban economies tend to have the lowest birth rates in the world. (So we need to look at Year 4 – 6 for the impact. Also the impact of M-F ratios is going to make escaping the demographic trap a lot harder.) In terms of the China 30 year miracle, I always how much the one child improved the economy in the short run.

  11. Gravatar of Kenneth Duda Kenneth Duda
    19. October 2015 at 09:58

    Scott, off topic, check out:

    I am *so tired* of hearing people wonder about whether “raising interest rates” would “cause” higher inflation. The implication is that the Fed’s zero interest rate policy is holding down inflation, and the Fed should raise its interest rate target if it wants higher inflation.

    Grr! The reality is so simple. The Fed doesn’t set interest rates. It targets one, the fed funds rate. The others are all set by the market. If they go up, that’s generally because the markets expect high NGDP growth in the future. That’s because they expect expansionary monetary policy. All of this is true independent of the Fed Funds rate. A Fed Funds target of zero doesn’t tell you anything about whether policy is expansionary or not, because whether policy is expansionary depends on market expectations of future Fed policy, which we could see clearly if we had an NGDP prediction market. If the Fed changed the target to 10% or -10%, it wouldn’t matter. What would matter is the announcement accompanying the change, and what that announcement told us about future policy.

    Cochrane’s post is so wrong. He starts with, “if inflation is stable at a zero peg…” but we don’t have a zero interest rate peg. The markets know the Fed is itching to raise rates at the earliest possible moment.

    Sorry, enough ranting. My question is: what URL would you give to Cochrane if you thought he actually wanted to understand what is wrong with his post? Where do you have this written up the most clearly?


  12. Gravatar of DF DF
    19. October 2015 at 10:26


    Where do you see Chinese household consumption ending up in the long run? I think it’s 36-38% of gdp right now. Thanks.

  13. Gravatar of TallDave TallDave
    19. October 2015 at 10:36

    Did we decide whether that number actually refers to Q3 RGDP or is cumulated?

  14. Gravatar of ssumner ssumner
    19. October 2015 at 15:45

    Ken, I share your frustration. Here’s one recent post that analyzes some of the issues raised in the Cochrane post:

    DF, It’s already around 50%, if measured properly, perhaps higher. I would think it will rise to 70% or so, as in the US.

    TallDave, I think it’s still cumulated, but am not certain.

  15. Gravatar of TravisV TravisV
    19. October 2015 at 15:49

    Yglesias: California > Denmark?

  16. Gravatar of TravisV TravisV
    19. October 2015 at 17:52

    Has anyone said anything about this paper?

  17. Gravatar of AbsoluteZero AbsoluteZero
    19. October 2015 at 18:43


    “TallDave, I think it’s still cumulated, but am not certain.”

    It’s not accumulated. They started to use just the quarter starting Q3 2015. This latest set of figures is the first one using the new (to them) methodology.

  18. Gravatar of AbsoluteZero AbsoluteZero
    19. October 2015 at 18:44

    Obviously I meant “cumulated” …

  19. Gravatar of ssumner ssumner
    19. October 2015 at 18:51

    Absolute zero, Thanks. Next question is whether it’s quarter over quarter, annualized, or year over year.

  20. Gravatar of AbsoluteZero AbsoluteZero
    19. October 2015 at 18:58


    “China’s one child policy is already over…not enforced in rural areas, many provinces, not for minority ethnic groups, and in many individual circumstances.”

    Yes and no. It is still enforced, but the quota is higher for non-Han and non-urban. This has been the case from the beginning, and new rules have been added later to further raise the quota. For example, originally, the quota was 1 for Han and urban. This was the only group for which the quota was 1. All other groups had quota higher, from 2 to 4. Today, if either parent is an only child, the quota goes up by 1. So today, even for urban Han, the quota is usually 2.

    Yes, there are many circumstances where the fine is waived. They include if one’s child is born with certain disabilities, or if one’s child is disabled from an accident or natural disaster, and so on. There are many other exceptions.

    And yes, as it is down to the discretion of the provincial or metro (for large cities considered the same as provinces) government, in many cases, if the numbers look good overall, the fine is waived.

  21. Gravatar of AbsoluteZero AbsoluteZero
    19. October 2015 at 19:03


    “Next question is whether it’s quarter over quarter, annualized, or year over year.”

    I believe it is quarter over quarter, annualized. But I’m not 100% sure.

    By the way, for those who can read Chinese, this is a story from guancha today.

  22. Gravatar of TravisV TravisV
    19. October 2015 at 23:06

    New post by David Andolfatto:

  23. Gravatar of Ben J Ben J
    20. October 2015 at 03:35

    Scott, AbsoluteZero,

    6.9 per cent growth is year-ended real GDP growth. The quarter-on-quarter number was 1.8 per cent. That implies QOQ annualised above 7, depending on the rounding.

    Note that the GDP deflator was negative again this quarter. NGDP growth has been about the same as RGDP growth all year, in year-ended terms.

    You can find the details in the English NBS report:

    The year-ended number is in the first paragraph, and the QOQ number is towards the bottom, in Note 3.

    Another (separate) release today also covers the production side breakdown:

    This release says the tertiary sector grew at 8.4 percent year-ended, and the accomodation and restaurants sector at more than 16 percent year-ended (!).

    The skeptics will always point to falling gross output to say growth isn’t rapid. But this argument isn’t convincing. Maybe the Chinese are fudging the numbers a little (personally I doubt it), but if they are, pointing to falling electricity consumption (etc) is unconvincing because it’s *exactly what you would expect* in a transition from secondary sector to tertiary sector growth. We simply don’t have enough services level data yet. Maybe the household consumption survey datasets that are being built will help.

    The one thing that points me towards a little fudging is the deflators, which have been acting strangely lately. But this would be smoothing data for political reasons, probably not outright fakery.

  24. Gravatar of Ray Lopez Ray Lopez
    20. October 2015 at 03:40

    You guys sound like a bunch of tyros that you are. Why don’t you go read where the big boys read? Start here, re China’s service sector:

    1. There is no rebalancing. 2. Services only growing from increased new loan volume and real estate revenue growth. – See more at:

  25. Gravatar of Ben J Ben J
    20. October 2015 at 03:49


    Look at the second link above. Click it. Look at the second table. Look for “real estate”. Is the real estate sector growing faster than the other sectors?

    No – in fact according to the NBS, it’s the third *slowest* growing over the past year. So whatever the person Tyler Cowen linked to wrote, they did so before even looking at what the NBS is saying. Bizarre.

  26. Gravatar of Ray Lopez Ray Lopez
    20. October 2015 at 04:20

    @Ben J – “cn is the country code top-level domain (ccTLD) for the People’s Republic of China. ” You do know that right? So you trust this data? I trust Cowen’s people over Mao’s.

  27. Gravatar of Brent Buckner Brent Buckner
    20. October 2015 at 04:27

    “The more capex-intensive the commodity, the weaker the demand growth, while the more opex-intensive the commodity, the stronger the demand growth. Demand has declined by 5.0% for cement, yet demand for gasoline is up 19.1%. This pattern suggests that policymakers are, at least to a degree, successfully creating the conditions for the much-anticipated rotation in economic growth away from investment and towards consumption.”

  28. Gravatar of Ben J Ben J
    20. October 2015 at 04:40


    Try to use your brain for a second.

    The blog post Tyler linked to says the Chinese data on services growth is wrong because the real estate contribution that is driving it contains non-services components.

    But when you look at what the Chinese say, they say that real estate is one of the slowest growing sectors.

    So the person Tyler linked to is accusing the Chinese of saying something that is wrong… But they didn’t even say it! If you’re going to accuse the Chinese of making stories up, you need to check that they’re actually telling the story you say they are.


  29. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    20. October 2015 at 05:45

    Meanwhile, Japan needs to do what China did…become capitalistic;

    The secret of Japanese firms’ strength has been described as lifetime employment, seniority-based wages, and company-specific labour unions. These elements of Japanese strength are on the premise of long-term corporate survival. To safeguard them, Japanese firms have demonstrated a tendency to choose CEOs from within their own ranks who are familiar with the company and have a risk-averse stance, or from their immediate stakeholders (creditors, parent companies). As long as this tendency continues, Japanese firms are less likely to reach their full potential and generate earnings which can measure up to their performance. To improve Japanese firms’ performance and pull them out of the ‘lost two decades’, it is necessary to carry out the following reforms:

    First, just as US CEOs would opt to cut jobs to boost corporate performance after leadership changes, Japanese firms must have a flexible labour market and other complementary systems such that their CEOs can execute management rights with responsibility.
    Next, the US has a labour market for CEO resources who specialise in business management, whereas there is hardly such a labour market in Japan.

    The presence of a labour market for management specialists sets the US far ahead of Japan in terms of the scale of human resources pool for potential company leaders. This could negatively affect corporate performance after leadership changes. A CEO moving on to another company after leading the first company’s recovery from poor business performance is normally a one-off case. There is hardly any such case of company leaders moving on to another business. There is a problem seen with firms such as the Sony and Sharp Corporations, which both selected a new CEO from within their own ranks following a business downturn.

  30. Gravatar of AbsoluteZero AbsoluteZero
    20. October 2015 at 06:11

    Ben J,
    Thanks. And yes, tertiary sector growth being higher is something being highlighted in multiple places in Chinese media, as far as I can see.

  31. Gravatar of AbsoluteZero AbsoluteZero
    20. October 2015 at 06:28

    Ben J,

    “… and the accomodation and restaurants sector at more than 16 percent year-ended (!).”

    Actually accommodation and restaurants is 6.5%. Finance is the one with 16.1%, or 17% Q1-Q3, year-on-year.

  32. Gravatar of ssumner ssumner
    20. October 2015 at 07:41

    Ben, J, Thanks that’s very helpful. But see absolute zero’s correction.

    Ray, You trust Chris Balding? The guy who claims half of all Beijing housing units are empty, based on a study looking at how many units had their lights on in the evening?

    Thanks Brent, That’s helpful.

  33. Gravatar of TravisV TravisV
    20. October 2015 at 09:20

    Dear Commenters,

    Which individuals do you think have made the strongest arguments questioning the Market Monetarist model of reality?

    For me, I think the answer is Arnold Kling and Bob Murphy…..

  34. Gravatar of TravisV TravisV
    20. October 2015 at 09:22

    Matt O’Brien: Is there a mutiny of doves at the Federal Reserve?

  35. Gravatar of Brian McCarthy Brian McCarthy
    20. October 2015 at 13:01

    With all due respect, China is a place where a little knowledge is a very dangerous thing.

    I love how everyone is touting strong growth in box office receipts as a sign of a consumer renaissance. Box office receipts are – wait for it… a whopping 7 basis points of GDP.

    Secondly, you’re aware that “services,” or tertiary growth has been driven by finance, which a state-dominated activity in China, not to mention temporarily goosed (23.3% y/y) by a government-engineered stock market bubble. The contribution of financial services to GDP is in the latter stages of a round trip from .5% to >1% and back again by Q1 2016. Real estate also comprises a big slug of tertiary activity, as does much government procurement buried in the “other” category.

    Thirdly, consumption is not “becoming a key driver of the economy.” Investment is still a mind-blowing 47% of GDP. Consumption has become a key driver of this year’s economic growth. Why? Because they can no longer fund rampant bad investment, so real estate investment is going negative.

    Let’s see how consumption holds up AFTER the debt starts going bad. Secondary industry (industry and construction – where the bulk of the corporate debt resides) is growing at 0.2% y/y nominal, and contracting sequentially. The growth rate in this sector ranged from 18-23% in the decade to 2012, excepting the 2008Q4-2009Q4 period. Presumably, a “rebalancing” must entail cessation of negative return investment activity and some allocation of resultant credit losses, right? This process, though inevitable, has not even started yet.

    As for “SoE reform,” the full plan, enshrining a central role for the State across vast swathes of industry, was released several weeks ago to a universal Bronx cheer. This week’s rally was nothing more than a speculative pop against a globally bullish backdrop.

    I’m consistently baffled by your whistling past the graveyard on China, when it witnessed a 100 percentage point increase in debt / GDP in a mere 5-6 years and has watched its nominal GDP growth rate drop by over 1,000 basis points from the previous trend. Oh, and their monetary policy is hamstrung by a currency linkage to the Fed that may well be tightening soon.

    But it’s all ok because, as per the latest set of talking points from the Ministry of Propaganda, they’re supposedly “rebalancing” to consumption. (Never mind, the whole “rebalancing” meme is supposed to be not about simply pushing more consumption, but about moving to a more market-determined allocation of capital resources, on which there has been little to no progress).

    Can we at least agree the jury is out on “rebalancing” until they get through someone in the system experiencing a credit loss?!?!

  36. Gravatar of Willy2 Willy2
    20. October 2015 at 14:30

    Off Topic:

    Australia’s housing markets are in the process of rolling over.

    Remember one Steve Keen ?

  37. Gravatar of TravisV TravisV
    20. October 2015 at 14:52

    Lower income groups cheering and applauding Ben Bernanke!

    “Lower income groups more optimistic about the future than in 2005-2006”

  38. Gravatar of ssumner ssumner
    20. October 2015 at 15:49

    Travis, What is Kling’s argument against MM? And what is Murphy’s argument against MM?

    Brian, I have trouble following your argument. You concede that growth is switching toward consumption, but then complain it’s happening because China is forced to switch toward consumption. I don’t know if that’s true, but even if it is I don’t see how it relates to this post.

    You point out lots of flaws with the Chinese model. That’s not news, I’ve pointed out dozens of times that China has a lousy economic model—so what else is new?

    You said:

    “I’m consistently baffled by your whistling past the graveyard on China, when it witnessed a 100 percentage point increase in debt / GDP in a mere 5-6 years and has watched its nominal GDP growth rate drop by over 1,000 basis points from the previous trend. Oh, and their monetary policy is hamstrung by a currency linkage to the Fed that may well be tightening soon.”

    I see you’ve been reading my blog, I’ve done lots of posts pointing out that the currency peg is a mistake, and that it’s causing NGDP growth to slow. So what does that have to do with this post?

    As far as “whistling past the graveyard” I’ve watched people predicting the end of the China boom for thirty years, and I’ve watched them be wrong again and again and again. Over time I’ve become skeptical of their fashionable pessimism. Why are they continually wrong? Maybe their methods are flawed. China had a debt crisis in the late 1990s, the government bailed out the banks, and the boom went on. Maybe debt crises don’t cause recessions in China or America, maybe tight money does.

    One China expert predicted 3% RGDP growth for this decade. We are half way though and growth has averaged 8%. Another China expert says 1/2 of Beijing housing units are empty, which is an absurd claim. I’m getting tired of reading all the bearish forecasts from the experts who are wrong over and over again.

    Then I read over and over again that China’s reforms have stalled, and yet somehow China keeps getting more market-oriented. How does that occur if the reforms have “stalled.” I’d strongly recommend Coase’s book on China, one of the few I’ve read that provides a plausible interpretation about what’s been going on there.

    Willy2, How many times have you predicted that since 2005? Good luck. It’s a lot like those who predict doom for China.

  39. Gravatar of Brian McCarthy Brian McCarthy
    21. October 2015 at 04:09

    ok, so your rebuttal to my post is basically that 5 years ago someone predicted 3% growth for this decade and growth has averaged 8%. Well, so what, and btw, the decade is only half over…

    Please detail how you see China “getting more market-oriented.” You mean they’ve allowed trading in some part of that half of the equity market that was halted for weeks at a time this summer? They’ve created some uncertainty regarding the “Beijing put” on credit assets because NDRC hasn’t yet figured out where the cash for the Sinosteel creditor bailout is going to come from. Is that what you’re referring to?

    Or are you simply referring to the statistical fact that investment growth has slowed more rapidly than consumption growth. My point, to be more clear, is that in an “investment-led” economy, investment leads. The consumption slowdown lies ahead.

    As for your agreement that the currency peg is creating a monetary policy problem, I’d be curious as to what you see as the solution. Presumably its some combination of devaluation and QE that returns nominal GDP to its previous trend at ~18% p.a.? Given recent events, I’d question why you think the requisite RMB devaluation would be controllable, given the very high risk of panic capital flight.

    (Perhaps you’re aware that PBoC is disguising the reserve drain by various means, including a draw-down of “other foreign assets” and what appears to be heavy usage of FX forwards and commercial bank balance sheets. All-tolled official Dollar sales in Q3 approached $500bn).

    I suspect this is why you’re unrealistically sanguine about China. They’re in the process of proving that if you run nominal GDP steadily at a far-too-high rate, fostering large scale capital misallocation, you end up with a choice of debt-deflation or maxi-devaluation risking hyper-inflation.

    Anyway, to be completely clear as to my query, would you agree that China is presently in debt-deflation?

    If you believe that goosing nominal GDP by 10+ percentage points is “the solution”, what would be your real-world plan for getting there?

  40. Gravatar of LC LC
    21. October 2015 at 09:57

    @ Brian McCarthy:

    You seem to be a China economic expert who has access to lots of data.

    So how do you see China getting its way out of this current situation?

    I am asking because I’d like to hear expert opinion on how China can get out of its current economic malaise.

  41. Gravatar of Brian McCarthy Brian McCarthy
    21. October 2015 at 11:34


    I don’t see an easy way out for China. Once capital misallocation occurs, its done. There’s not much to do but stop the bad capital allocation behavior and deal with allocating the losses. China hasn’t even started either process in my view.

    Removing the implicit guarantee on credit assets and privatizing State-owned industry would be good places to start. But the short-term effect on employment is unlikely to be pretty, threatening political stability.

    Any socialization of credit losses is likely to quickly push government debt above 100% of GDP, incredibly high for a middle income country. Another potential threat to political stability.

    On a separate track, they need to figure out a way to break the RMB’s link to the Dollar (to obtain monetary policy flexibility) without triggering a panic of capital flight and a meltdown. August suggests this will be easier said than done. Again, political instability looms.

    If these things were relatively easy fixes, wouldn’t we have seen ONE significant default by now and a more realistic acknowledgement of NPLs? Might they have privatized SOMETHING? Or might they have stuck with a “market-determined currency” for more than 48 hours?

    The irony, of course, is that avoiding at every turn policies that present any threat of instability raises the odds that the ultimate end-game is an extreme “loss of control.”

  42. Gravatar of LC LC
    21. October 2015 at 12:17

    @Brian McCarthy:

    Thanks for the reply.

    Not looking for easy solutions. Everyone knows the problem is hard. You also seem to imply the solutions are hard, so do you have any evidence the hard solutions are not being discussed or prepared?

    Regarding implicit guarantee on credit assets, can you list the classes of assets that have implicit guarantee? Who’s the behind the implicit guarantees? Local government? Central government? PBoC?

    Regarding socialization of credit losses, what scenarios do you see credit loss occurring that would push government debt above 100% GDP? Which government? Central or local?

    Regarding delinking RMB to dollar, is there any figure that show how much capital flight is required for a meltdown? What is a meltdown scenario?

    Again, I am looking for specifics and the specific economic scenario used for these models and predictions.

    If we can spell out all the assumptions, then perhaps it will offer guardrail and a clear road map to get out of this mess.

  43. Gravatar of ssumner ssumner
    21. October 2015 at 12:25

    Brian, You said:

    “Presumably its some combination of devaluation and QE that returns nominal GDP to its previous trend at ~18% p.a.?”

    Why would a central bank not at the zero bound do QE? And no, I don’t favor 18% NGDP growth in China, I’d aim for about 7%, and then gradually slow that rate over time.

    I base my perception of gradual reform on three factors:

    1. Studies that show the private sector is gradually becoming a larger share of the economy.

    2. Frequent news stories about various economic reforms that are occurring.

    3. My trips to China, where the country seems more market oriented each time I visit (going back decades.)

    I suppose none of those three are particularly convincing, but I find the alternative claims even less convincing, as they are generally based on anecdotes—as in your post. The Economist magazine has recently had some major articles making the same sort of arguments I just made about China gradually becoming more market-oriented.

    The term “debt deflation” is very vague. I think the main problem there is just lots of bad debts, as their economy has moral hazard on steroids. I doubt that deflation is the main problem, although I suppose it’s a contributing factor.

    I agree with many of your reform proposals, but am a bit less concerned about the debt than you are. Yes, a debt of 100% of GDP is large for a middle income country, but China is unlike any other middle income country. I’ve consistent said that at some point China is likely to have some sort of debt crisis—1998 in Korea might be a plausible scenario. If that happens then I’d say China got off easy, as it was poorer than sub-Saharan Africa not long ago, and South Korea recovered after its debt crisis and is now rich. If China follows the same path they’ll be very, very lucky.

  44. Gravatar of Willy2 Willy2
    21. October 2015 at 15:33

    – Did one Mr. Sumner even bother to read the articles/open the weblinks I posted ? I presume he didn’t. Is he afraid to read something that contradicts his own views ?
    – Yes, China is going to crash as well. Never read the blog of one Mr. Michael Pettis ?

    Pettis lives & teaches in China. He has written extensively on the subject of China’s financial situation.

    Micheal Pettis saw the bubble coming YEARS ago.
    “Its quite easy to see the overcapacity, without even coming to China. Just check out steel, shipbuilding, etc. In fact it was easy to predict overcapacity long before it happened. With negative real lending rates, equal to one third of nominal GDP growth, widespread moral hazard, corruption, second rate bankers with very little credit training, ferocious credit growth, and a big business culture that valued employment and revenues more than profitability, there isn’t a banking system in the world that wouldn’t have finished in an orgy of bad lending.”

    – Did Mr. Sumner check out what happened to the price of the two main export products of Australia, called coal & iron ore, in the last years ? They’re back to the level of 2009.
    – I did see the US housing bubble coming in say 2002/2003 but it took until late 2005 until US housing started to drop in price. The situation in Australia is similar. Steve Keen already saw the australian housing bubble in 2009. But now here in 2015 the australian housing bubble has started to deflate.

  45. Gravatar of Willy2 Willy2
    21. October 2015 at 15:44

    Price of coal:

    Price of Iron ore:–eventually-20140910-10erq7.html

  46. Gravatar of ssumner ssumner
    21. October 2015 at 16:40

    Willy2, You are hopelessly confused.

    1. Yes, I know who Michael Pettis is, and indeed I’ve met him while traveling in Beijing. We had a nice conversation, he’s very knowledgeable about China. But let’s talk about his predictions. He predicted China’s real GDP growth would average 3% this decade. We are half way through the decade and it’s averaged 8% so far. So if they average negative 2% the rest of the way then come back here and tell me he was right, and I’ll write a post saying Pettis was right and I was wrong. Having said that, he’s absolutely correct about many of the flaws in the Chinese model, I just happen to think he’s too pessimistic about China’s growth prospects.

    2. The falling iron ore prices support my claim that China is transitioning away from heavy industry, don’t you think? And I know what’s happened to the price of commodities, you don’t have to attach links.

    3. As far as Australia, people were predicting a housing bubble there as early as 2005. Their predictions were spectacularly wrong. I wish they’d just admit it. I lose respect for people who won’t acknowledge predictions that proved incorrect.

  47. Gravatar of Ray Lopez Ray Lopez
    21. October 2015 at 20:32

    Sumner: “2. The falling iron ore prices support my claim that China is transitioning away from heavy industry, don’t you think?” – hell no, we don’t think that. What are the chances that this ‘transition’ to services just so happens to occur a few years after a worldwide Great Recession (2008) that reduces First World demand for China’s exports? You think the central planners are that smart, that they decided to transition into services now? I doubt it. More likely it’s simply a sign of excess capacity from the pre-2008 years that’s going to have to be liquidated, just as Willy2 says.

    Sumner you’re confused…and confusing.

  48. Gravatar of Willy2 Willy2
    21. October 2015 at 22:58

    No. You’re missing/overlooking a number of things:
    – You’re overlooking that as a result of iron ore & coal prices remaining high (even after 2009) miners kept investing more money in expanding & openening new mines in e.g. Australia & Brazil. And as a result of those investments, since say 2009/2010/2011 SUPPLY has increased as well.
    – Those investments mean jobs for australians. But now prices for iron ore & coal have come down CAPEX is shrinking as well. And that means fewer jobs.
    – There’re a number of very well established gauges that tell us whether or not a housing market is overvalued or not. in Sydney housing costs about 6 to 7 times average income. Any value above 4 is considered to be bubble. And that bubble is now starting to deflate.
    – It took so long for real estate to deflate because:
    1: in 2008 & 2009 the australian government doled out LOTS of money to support the housing market.
    2: China threw LOTS of money at the chinese economy to support its economy. And that was (very) beneficial for Australia (think: commodities).

    To sum it up: 3 things are hurting Australia (even without a chinese transition to a more consumer oriented economy)
    – Too much supply.
    – Falling prices.
    – Falling CAPEX.

    – Australia’s debt to GDP ratio was lower in the early 1990s than here in the US but now it’s higher than the here in the US.

  49. Gravatar of Willy2 Willy2
    22. October 2015 at 07:31

    – The australian real estate bubble is about to burst NOW. E.g. in the mining town of Moranbah prices have dropped from AUD 800.000 down to AUD 200.000.

  50. Gravatar of Willy2 Willy2
    22. October 2015 at 22:40

    Australian real estate was helped by favourable tax treatment. Someone who bought a house to be rented out could deduct all related costs from their taxes. When, after a few years, that property is sold then one needs to pay only 50% of the capital gains taxes. No wonder, A LOT OF australians grew fond of real estate and kept pushing real estate prices higher.

    But now australian real estate prices seems to be going into the reverse direction (downwards) A LOT OF australians will get hurt. Already a number of those investors/landlords are confronted with mortgages that are “under water”.

  51. Gravatar of ssumner ssumner
    23. October 2015 at 05:44

    Ray, China isn’t a centrally planned economy, it wasn’t even centrally planned under Mao.

    Willy2, Australia’s unemployment rate has not increased at all in the past year, and commodity prices have plunge. So much for the theory that Australia’s good job market was due to mining.

    Again, come back here when Aussie house prices fall below 2005 “bubble” levels. Until then the bubblemongers will have been wrong.

  52. Gravatar of ssumner ssumner
    23. October 2015 at 05:45

    BTW, Weren’t you here a few years ago claiming the housing bubble was bursting? Weren’t you wrong before?

  53. Gravatar of Willy2 Willy2
    23. October 2015 at 12:52

    I maintain my view: Australian real estate is in a bubble and is about to peak or already has peaked. Did you even bother to read the links ?

    No. In the past I never said the bubble was bursting. But I mentioned it was a bubble.
    You’re right. Mining is no too important for Australia. It accounts for only about 5 to 7% of jobs.

    There’s another reason australian real estate is “feeling the pain”: The crack-down on corruption in China has a major negative impact on the ability to move money out of the country (e.g. to Australia).
    But there also has been a lot of talk in Australia of eliminating/reducing all the tax breaks for investors/first time home buyers and that also does help to deflate the bubble “Down Under”.

    There’s a TRULY EXCELLENT australian website that keeps track of developments that concern Australia called “MACROBUSINESS” (MB). I visit that site every day and the trend is quite clear. Australian real estate is about to “roll over”. I can recommend MB !!!!

    MB is quite adament. Australian real estate is “weakening”/about to “weaken”.

  54. Gravatar of ssumner ssumner
    23. October 2015 at 19:05

    Willy2, Yesterday Aussie housing was crashing and now it’s only about to peak? Can you make up your mind?

  55. Gravatar of Willy2 Willy2
    24. October 2015 at 13:11

    I re-read my replies but I see no inconsistencies:

    – Yes, I can make up my mind. In general, australian real estate is peaking/has peaked/is about to roll over. (See the links).
    – But that doesn’t mean that in some places prices have gone down A LOT. I gave the example of Moranbah, a coal mining town in Queensland, in which the price for one house went down from AUD 800,000 (in 2011) down to AUD 200,000 (in 2014). Ouch.

    – Even australian mortgage brokers consider australian real estate to be in a “bubble”. And that was in 2011.
    Watch he video. In the 1st say 5 minutes Steve Keen asks the brokers whether or not real estate in Australia is in bubble.

    Again, follow the weblinks provided. Any questions left ?

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