China To Grow at 3 Percent



By John Richardson

THE possibility that China’s economy may not expand as rapidly in the future as in the past is never discussed in public by resources-company CEOs, said an Australian-based stockbroker.

His comments ring true for petrochemicals, also. The blog is struggling to find a senior executive willing to discuss this possibility on the record.

“The top management of iron ore, coal and other resource companies are burying their heads in the sand,” added the stockbroker.

“The assumption is that iron ore prices will be at least $100/tonne. This would justify some of the higher-cost projects.

“And the more efficient producers are factoring into their financial forecasts the assumption that the higher-cost projects will be able to run at high operating rates, thanks to booming Chinese demand.

“In iron ore, as in petrochemicals, it is the marginal or highest-cost producer that sets the price in a strong market, maximising profits for those with lower operating costs.”

To draw a parallel with petrochemicals, this is the equivalent of assuming that the smaller, naphtha-based cracker operators in Japan, South Korea and Taiwan will be able to consistently run at around 100 percent over the next few years. This would guarantee stellar returns for the ethane-based crackers.

But, perhaps, all will be right with the world if you are only interested on decent returns over the next few years.

“China’s government could be tempted to kick the can down the road through another big economic stimulus programme, thus delaying the rebalancing of the economy away from investment and towards consumption,” said the stockbroker.

“This would provide a temporary boost to GDP, which would perhaps be long enough for some of the heavily debt-burdened resources projects to pay-down their debts.”

Michael Pettis makes a similar point in this article in the Business Spectator, the financial and economic news and analysis service.

China’s GDP growth will average only 3 percent per annum in 2010-2020, as a result of the government efficiently managing the transition from investment to consumption-driven growth, he believes.

“If I am wrong and Chinese growth this decade is materially higher than 3 per cent, my prediction is that the ‘lost decade’ of much lower growth will stretch out over two decades,” added Pettis, senior Associate at the Carnegie Endowment for International Peace and a finance professor at Peking University’s Guanghua School of Management. (He is also the author of this very thought-provoking blog).

Based on his assumption that the Chinese government will successfully rebalance the economy over the next decade, Pettis added: “Non-food commodity prices are set to collapse over the next three to four years.

“Collapse is not too strong a word. China’s share of global demand for such commodities as iron, cement, copper, etc, is completely disproportionate to its size and almost wholly a function of its very high growth in investment. As investment growth drops sharply, as it must, global demand for non-food commodities will plummet.”

This could also include a steep drop in demand for petrochemicals.

The reason he gives for China’s need to rebalance its economy is “massive” misallocation of investment on infrastructure and industrial capacity. This has led to unsustainable debt levels.

Sounds familiar? It was debt that, of course, caused the financial crisis in the West.

We were sold the story that US house prices would always increase.

And now we have been sold the story that growth in China is a one-way bet.

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