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This has the potential to end up as an exceedingly embarassing post in retrospect, much like the confident blusterings of Wall Street bigwigs in 2007 or 1929 convinced the boom would never end.

Still, I guess someone has to stick their neck out.

(1) Booms tend to precede busts. But… what boom? Most of the developed world has only barely finished recovering their peak (inflation adjusted) GDP per capita of 2007-2008. Of the major economies in this group, only Germany, the US, and Japan have gained ground as of 2014, and of the latter two, only by the thinnest of margins. France and the UK remain 2% below 2007 per capita output; Italy, by about 10%.


(2) Usually major recessions come in intervals of at least 10 years, the normal period for the Caution → Overconfidence → Loosening credit standards → Panic → Bust → Caution cycle to run its course. I think we are still very much in the Caution stage from the hangover of the Great Recession. Of course you can also get recessions from supply shocks like the 1970s oil crises, but that is patently not the case now. Apart from those countries that benefit from high oil prices (Russia, etc.) this should if anything act as a counteracting buffer.

(3) By themselves, stockmarket declines do not necessarily mean much, even in economies like the US (and unlike China) where companies get a large percentage of their financing from the financial markets. The 1987 stockmarket collapse remains by far the largest single day decline to date, but did not lead to a recession.

(4) They mean much less in China. As noted by many other columnists here like Eamonn Fingleton, the stockmarket is little more than a casino there. Only 2-3% of the populations participates in it. Companies do not rely on it for financing. They rely on banks, especially the state-owned behemoths.


Shanghai’s 40% drop in recent months looks concerning… until one notes that the net effect has merely been to return it to the average level of January 2015, which in turn was still double that of 2014 as a whole.

(5) Growth in the Chinese economy has crashed from its typical 10% to… well, 7%. Not much of a crash, is it? Note that China now produces about ten times as much steel and twice as many automobiles as the US. The potential for further 40% investment of GDP-driven growth in heavy manufacturing that has powered it for the past twenty years is now over and focus has to move over into consumption and services. This is an entirely natural development for a successfully catching up economy. South Korea also underwent a transition from ~10% growth in 1990 and earlier, to ~7% by 2000 and ~4% now. China’s GDP per capita level (both nominal and PPP) is today approximately analogous to Korea’s in the early 1990s, so given their similar human capital profiles, it is reasonable to expect China’s growth trajectory to resemble Korea’s with a 20 year time lag. In other words, it should be slowing right about now. Doesn’t mean it will collapse like the Sino-pessimists claim.

No shortrun shocks can change this fundamental picture, just as the 1998 Asian financial crisis had no permanent impact on South Korea. And unlike South Korea and the other Asian “tigers” at that time, China has much bigger buffers in the way of foreign currency reserves: Enough to cover 322% of its foreign currency debts, compared to 22% in Korea in 1998. So a currency crisis of that sort is simply out of the question. This is all rather obvious, of course, but even – especially – obvious things need to be repeated from time to time.

(6) There has been a spike in volatility (as proxied by VIX), but historically this has not led to recessions about as frequently as it has. Below is a historical graph. Note that it leaves out the 1987 event, which saw VIX reaching an all time peak at 150.



The Baltic Dry Index, a proxy for the cost of shipping, which people were making a big deal of back in 2007-2008, is currently at historically normal, unremarkable levels.

(7) Even Ambrose Evans-Pritchard, who has predicted about twelve of the past zero Chinese recessions, is unusually upbeat (relatively speaking). Though given his record, this admittedly might be more a source of panic than placation.

Disclaimer: Needless to say, this is not official investment advice.

• Category: Economics • Tags: Economics, Financial Crisis, RealWorld 
  1. Anonymous says: • Disclaimer

    Crashes happen. The question is, what next? When interest rates are high, the answer is easy – lower them. When interest rates are at rock bottom (as in US and Europe) that’s your main easy answer gone. Another option is increase government spending. Both the US and Europe have governments in power that are quite averse to exercising it. I think this makes the potential for economic disaster quite high. But it has to be put in perspective, big downturns are rare.

    It seems like the most solid answer to the question “will there be a big bust now” is “probably not” most of the time. My question is, how confident are you? Do you think the bears are idiots, or is it a pretty close call?

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  2. 5371 says:

    The housing market is indeed beginning to recover in China, but slowly, and certainly that has not yet fed through to the economy as a whole.

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