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China: Heading for a Bust

China's economy has turned from boom to bust with alarming speed...

MANY INVESTORS will be hoping that China's leaders will be able to halt the disturbing deterioration of its economy. In just the past few weeks, there has been a whole heap of data showing China is not quite the miracle economy everyone thought it was, writes Greg Canavan for the Daily Reckoning Australia.

Allow us to make some introductions. China – meet the dark side of the boom. Dark side of the boom – meet China.

At some point in November, China's economy looks to have crossed the threshold from boom to bust. It seems to have happened so quickly...

If you think China's central planners can tweak some levers in a control room to correct the situation, you're not really thinking. Once a boom turns into a bust, it takes on a life of its own. In the same way as the boom gets away from the authorities, so does the bust.

The latest bust anecdote out of China involves a story from The Times of London:

In the Inner Mongolian sprawl of Ordos, the Chinese coal city ravaged by the wildest excesses of boom and bust, a swerving, screeching economic phenomenon has careered on to the streets: the drink-driving debtor.

At the wheel of these cars, weaving madly in deliberate view of the police, are men on a mission – they want to be arrested, breath-tested, charged and locked safely behind bars before their creditors come calling.

Welcome to debtors prison, Chinese style.

The creditors are not banks. They are individuals or families involved in the underground lending market. And unlike banks, it is their money that has disappeared.

How did this unorganized lending racket unfold? Let's just say it's a product of the law of unintended consequences.

At the start of 2011 the government realized the boom they had unleashed in 2008, like a young dog at a beach, had run away from it. Property speculation was getting out of control.

So they ordered banks not to lend. Such is the arrogance and ignorance of central planners, they think they can control the market by making a few announcements and pressing some financial buttons.

The banks reined in their lending – somewhat – but the demand for credit, set off by the speculative boom in the property market, remained. So individuals stepped in to supply the demand.

Because China's interest rate structure is all screwed up (where deposit rates are below the rate of inflation) people realized they could earn a better return by pooling their resources and lending to property developers.

That's a good strategy while property prices are rising. But now, they are beginning to fall. The lenders have lost money and they're after debtors' fingers, hands, or whatever it is that Chinese street justice demands in these situations.

The city of Ordos is – or perhaps we should use the past tense, was – a wealthy coal mining region. However, according to The Times article much of that wealth has been ploughed back into the property market.

You can have a look at the 'fruits' of that investment here. It's truly mind-boggling.

The funny thing is, investors in the West are relying on the bureaucrats who caused all this to fix the problems.

They won't be able to. Chinese policymakers have about as much chance at halting the property and fixed asset bust as the Fed had in stopping the subprime crisis.

They'll try of course. This will give investors hope and lead to another round of unintended consequences.

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Greg Canavan is editor and publisher of Sound Money, Sound Investments, a weekly financial report devoted to unearthing great value investments amid today's "money illusion" of fiat currency. Formerly editor of Australia's market-leading finance newsletter, Greg has been a regular guest on CNBC, ABC and BoardRoomRadio, as well as a contributor to publications as diverse as LewRockwell.com and the Sydney Morning Herald.

See the full archive of Greg Canavan.

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