Are The Bulls Rights?

CN: Are The Bulls Rights?

Bert Dohmen, Contributor

The bulls say that the setback in China's economy, and the 20% decline in its stock market over the past 12 months, is a buying opportunity.

The reasoning: China's government, which has been fighting inflation, will now be able to loosen credit and engineer the historic elusive goal of all central banks, namely the "soft landing."

Once again I diverge from my colleagues in the business and say that a China crisis is in the early stages and eventually may produce a tsunami throughout the financial markets. Even dictatorships cannot engineer "soft landings."

In the aftermath of the 2008-2009 crisis, the Bank of China created a stimulus about four times bigger than the one in the U.S., (as a percentage of GDP). It created a new credit and real estate bubble. It's economic fact that a credit bubble, once it bursts, cannot be reflated without causing a greater disaster down the road. Ludwig von Mises, founder of the Austrian School of Economics, wrote exactly that over 60 years ago.

Didn't China have a real estate bubble the past three years? Well, in 2011 the average condo in Beijing cost 57 years of medium per capita income. That is totally unaffordable. These condos were not built for inhabiting, but for speculating. Millions of them have never had their electric meter turned on. Many don't even have bathrooms. One report says there are 40 million empty apartments.

Do the bulls realize that the important Shanghai stock market index is down more than 30% from its post crisis rally high in 2009? That's during a time that the U.S. stock market had a good recovery and China's  government-created GDP growth numbers were at double-digit levels. If the China stock market was in a bear market during such allegedly strong growth, what will happen to it when growth declines substantially? Or perhaps such a GDP growth shrinkage won't be allowed, using creative accounting.

I am very skeptical about numbers coming out of China, whether it's from the government or individual companies. Look at the Chinese IPOs in the U.S. over the past years and the how many of these firms have actually disappeared.

As evidence to this, I quote an item from Bloomberg:

The China statistics bureau said local officials forced some hotels, coal miners and aluminum makers to report false numbers, highlighting flaws in data tracking the world's second-largest economy.

Statistics officials in Hejin City gave companies "seriously untrue" numbers to submit for 2011, the National Bureau of Statistics said on its Web site.

Yes, local governments pressured companies in their realm to produce false and overly positive numbers. There is the "smoking gun." But these are the numbers Wall Street analysts seem to believe.

I look at more important numbers than GDP:  manufacturing, steel consumption instead of production, electrical consumption, purchasing managers survey, actual inflation instead of that announced by the government, etc.

Manufacturing numbers have been contracting the past five months. That's recession. Car sales have stalled out, with luxury car makers like BMW and Mercedes offering unprecedented 25% discounts. Electrical consumption, the best indicator of economic activity, has been declining, not increasing.

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In 2007, when the optimism about Dubai hit its peak, I predicted that it would be the largest real estate debacle in history. The numbers just didn't add up. I predicted that many of the huge skyscrapers would remain virtually empty. Now we know that this was correct. The collapse of the China real estate bubble is much bigger. Prices of condos in the major cities are already down 50% or more. Sales have plunged by similar amounts. Major developers are in financial trouble. Doesn't  this sound like 2008 in the U.S.?

The bulls talk about the 8% GDP growth in China, which sounds strong compared to western economies. But this is a false number. Reported GDP growth is always after deducting inflation. So, if an artificially low inflation number is used, it increases the reported GDP. Actual inflation in China may be 50-100% higher than the official number. Thus, GDP growth may be from 0 to 4%.

Last year the global markets were focused on the European crisis that almost led to European banking crisis. The next several years which see something much bigger, and it will come out of Asia.

But well known Wall Street figures appear in the media and predict a "soft landing." Can they cite one case where the bursting of a huge credit bubble has had a soft landing? Perhaps communist governments are better at it, using creative accounting.

My dire outlook in 2007 and 2008, as I depicted in my 2007 book, Prelude To Meltdown, was opposed by the same Wall Street optimism. After all, everything was booming and the trajectories pointed upwards. And bullish analysts are good for business. "Things have never been better," the CEO of a major private equity firm told the audience of a very important conference in April 2007.

Sentiment about China last year was similar because GDP was growing at double-digit rates. When the majority of professionals all believe the same, they are likely to all be wrong.

For me, China is the big elephant to watch very closely. However, the government may be able to delay the most serious problems until next year.

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