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17 February 2016

Hard Landings

‘Hard landings’ are uncomfortable. In the days when I flew small aeroplanes myself, I made enough of them, but the one that really sticks in my mind - and still, twenty-odd years later - makes me shudder to remember it, was on an internal flight in India with an unheard of airline on an aircraft well past its sell-by date, when the pilot managed to hit the runway (I suppose runway should have been seen as a bonus, in the circumstances) with such force that all the overhead lockers burst open, the bags from inside them were thrown all over the passengers below, and those latter set up a cacophony of concern. Still, we all survived, dusted ourselves down and got off; and, like me, I would guess that the majority of the passengers quite happily got on to their next flight. In other words, hard landings may be unpleasant, but they don’t change behaviour overall, at least when it comes to air travel.


But an economic hard landing is just what China seems to have experienced. There are, for sure, those who will argue that it is still only in prospect, and could possibly be averted, but I think they are running behind events. Look at the facts: cratering stock market, exploding property bubble, diving raw material demand. I think that adds up to a hard landing. Where does that leave the question of when (or if?) China will overtake the United States to become the world’s leading economy?

and Japan...

With that question, it’s worth remembering what happened even longer ago than that Indian flight. In the mid to late 1980s, the big question was when Japan would overtake the US. This was at the time when news reports were full of stories about the value of Tokyo real estate, the particular favourite being the one about how the land occupied by the Imperial Palace in Central Tokyo was more valuable than all the land in the State of California (or some variant of that theme). Well, it didn’t happen, and there is a whole generation out there who know no more about Japan than that it has had a ‘zombie’ economy for years. It’s the go-to comparator for when you need an example of how central banks can get their policies totally wrong; only this morning, a friend of mine was telling me how policy had ground the economy down. Now, that may be the case, and whether or not it is so is not really my point here; although, I would just observe that my own experience of Japan (admittedly principally Tokyo and Nagoya, so restricted) has not particularly reflected that. Tokyo seems no more or less downbeat than any other global city. What is not open to dispute though is that Japan’s impressive growth levels stopped, and the possibility of imminently overtaking the US faded.

Similarities? and Differences?

So is China going to be a repeat performance? Run well and then fall at the last? There are similarities. Both economic booms have owed a lot to rapidly inflating property bubbles. I’m sure somebody can find a statistic about Shanghai to match the Tokyo/California one. Both satisfied a need for initially basic and then gradually higher-tech consumer goods in the western world. Both had large available workforces to enable them to dominate heavy industry. For younger readers, Japanese steel was once seen as as big as threat as Chinese is now, and Japan once upon a time had a significant aluminium smelting industry. 

But there are also significant differences. China has a wealth of resources to exploit; Japan, although there were some copper and gold mines in the past (in fact, Sumitomo Metal Mining is, I believe, one of the world’s oldest companies) has none to speak of these days. But it is in the political dimension that we should look for the real differences. Japan is, although the dominance of one political party has been remarkable, a pluralist democracy. China is not. China is effectively a pyramid system with one man at the top. Now, such a system initially seems effective - decisions can be taken, plans activated very quickly. However, as it becomes entrenched, it become increasingly inefficient as corruption, fraud, waste and patronage begin to take their toll. That’s not just an opinion; totalitarianism has pretty much failed wherever it has arisen. The Soviets, Maoists, and the rest, love five-year plans, great leaps forward, command and control economics. But in the end, they crumble. 

There is no question that China has opened up to more free market ideas since the end of ‘Maoism’, but it’s still in a dangerous place, where decisions are made for what may well seem to be arbitrary reasons, for example, based on preferment or political advantage. A very old Chinese philosopher, in a text known as Zhuangzi, put it this way: ‘Steal a hook and they will hang you; steal a country and they will make you a prince.’

This isn’t supposed to be a political piece. I’m simply trying to point out two things. First, we have been here before, with Japan, which was first hyped and then dropped. China has been hyped for some years now; I fear the dropping is very close. Secondly, there are particular problems inherent in the Chinese system which I believe have the potential to hold back its development now, having initially served to boost it.

Metals Research

And where does this leave us with metals? Not too well placed, I would suggest. There have been two interesting pieces of research painting a less than attractive picture recently, put out by Goldman Sachs (who currently seem to be the leading copper bears) and Redburn and Partners (predicated on declining Chinese demand). I recommend both, although beware; Goldman’s is a bite-sized 30-odd pages, whereas Redburn’s is a full meal at about 190. You may need sustenance as you work your way through it……..      


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