Murphy's Law: The China Problems Are For Everyone

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March 23, 2014: While China may become the largest economy on the planet in the next few generations, with a growing military budget to match, it will also suffer from some catastrophic long-term problems that gets little attention in the news but are nevertheless very real and unavoidable. For example, there are several disastrous demographic problems approaching. This began in the late 1970s when, to control population growth most couples were restricted to only one child. This has been widely enforced, to the point where the average number of children per couple has been 1.7. But many of those couples aborted a child if it is a female, because much more importance is attached to having a male heir. Thus there are 35 million more males than females, and the number is growing. These surplus males are coming of age, and the competition for wives is causing problems. Women are taking advantage of their scarcity, but men are also going to neighboring countries to buy, or even kidnap, young women to be wives. This is causing ill will with neighbors.

The biggest problem, though, is the growing shortage of workers. As the population ages, all those one child families means there will be more elderly than the economy can effectively support. Currently there are 11 working age Chinese for every retiree. By 2050, there will only be two for each retiree. At that point, retirees will comprise 30 percent of the population (versus 13 percent now.) Traditionally, children cared for their parents in multi-generation households. That model is dying out, and China is faced with huge pension cost increases at the same time they expect their economy to be the mightiest on the planet. But at that point, the largest single government expense will be the care of the elderly, and this will impose crushing taxes on those of working age. Many working age Chinese are worried about this, for there is no easy solution in sight. China can relax the one-child policy, which it is apparently doing, but the newly affluent Chinese are less eager than earlier generations to have a lot of kids.

To make matters worse there is not much in the way of pensions or health care for most of the elderly to begin with. The government recognizes this is a real problem but does not, and will not have the cash to deal with it. In an attempt to limit the damage a bit, in late 2013 China increased payments (pensions and death benefits) for former soldiers and their families. These payments are going up about 15 percent to about a million recipients. Currently China spends $4.9 billion a year on these payments, which vary from under a thousand dollars a year to over$7,000 a year per recipient.  That’s a significant amount of cash for many Chinese and it gives a lot of people one less grudge against their communist police state government. These are not pensions for career military personnel who retire but payments to soldiers who have been downsized in the last decade, or have been crippled during military service or families of those who were killed during wartime. Some military personnel killed on duty are declared “war dead” in order to take care of families and reward and honor the sacrifice. This, as well as payments to disabled soldiers is a combination of good public relations, a boost for morale of all troops and another inducement for young people to join. There are sometimes conditions attached to these payments, the main one being that if a downsized soldier came from a rural village you can only get paid if you return to live in the countryside (and not move to the booming and overcrowded cities unless the government tells you to).

Then there is corruption, which has been a problem for thousands of years. The Chinese government continues to proclaim its aggressive efforts against corruption. In 2013 the government said that it investigated 150,000 corruption cases and recovered over $8 billion. Most Chinese still encounter corruption daily and don’t really get the impression that the government is making a serious dent in the problem. The bigger crooks still seem to get away with it while the little guys get punished. The anti-corruption effort is not the only government program that is underperforming. The Internet censors have failed to keep out all the bad news about the Chinese economy that the government would rather not be publicized. This is mainly about the faltering growth rate (down from ten percent or more to seven percent a year or less since 2008).

China also has problems with popular sentiments that contradict official policy. Case in point is the growing anger over pollution. This is the result of three decades of rapid economic growth and a culture of corruption that allowed the pollution to grow and the government to keep it out of the news. But eventually people noticed and have been increasingly open and direct in demanding some action to deal with it. So in late 2013 the government responded in a way no one expected; pollution data was declared public data and all government organizations and businesses were ordered to make their pollution data public. Not everyone is complying but given the growing boldness of angry citizens and availability of pollution monitoring equipment, any cheaters are vulnerable to getting caught and then exposed to a public shaming on the Internet. For commercial firms this can mean lost business. For government officials this can mean more scrutiny than corrupt bureaucrats are comfortable with. With this new openness policy the government is making itself less unpopular and harnessing the power of the anti-pollution groups (who represent most of the population) for a joint effort in dealing with the dirty air and water.

Senior Chinese leaders are becoming increasingly bold in dealing with popular discontent, aware that throughout Chinese history such discontent often led to popular uprisings that brought down dynasties and made life very unpleasant for those in charge. Many of the lower ranking bureaucrats are less concerned with this as they are more interested in stealing as much as they can while they have the opportunities. But if decisions at the top can make this more difficult to do, then there will be less corruption and bad behavior by officials. The most senior people are making moves like this because they understand that they do not “rule” China as much as they preside over a huge bureaucracy which resists unpopular orders and is more responsive when the senior leadership makes decisions that simply put more pressure on bureaucrats to behave.

The other item the government wants kept out of the news is the problem in the banking system and how decades of corruption there is catching up with the government ability to keep the plundering and manipulation from crippling the economy. The fact of the matter is that there are a lot of zombie banks operating, that were essentially bankrupted by uncollectable debts (the corruption angle) that the government cannot cover for. There is also the property bubble, caused by all the building loans banks issued for stuff that is still unsold. This has caused growing downward pressure on property prices, which is lowering the net worth of a lot of Chinese. More and more Chinese (especially business owners and executives) are asking important questions about all this but the government would rather not discuss the issues.

The international financial community is getting nervous about the Chinese government’s ability to deal with this uniquely Chinese financial bubble. While in the West the usual bubble is one based on real estate or stock market speculation, in China there is a less well known bubble involving an unofficial banking system that provided loans to highly speculative (and often, by Chinese standards, illegal) undertakings. These “shadow banks” were also very corrupt, doling out bribes and fees to corrupt businesspeople and government officials. The problem is that all this off-the-books financial mischief has got its hooks into legitimate assets (as collateral or a source of cash to keep operating or expand). The number of bad loans (that are not, and probably never will be repaid) has been growing and that is threatening to reduce the cash the official banks have free to keep the economy going. If the government mishandles this mess the Chinese economy could suffer widespread bankruptcies and high unemployment. It could take several years to recover and during that time there could be a popular uprising. A dip in the Chinese economy (at $8 trillion second only to the American $14 trillion) would ripple throughout the global economy. It would be 2008 all over again, but possibly worse. So it’s not just China’s problem.

 


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