If you believe YouTube, the economy in China will collapse in 47 days…or 29 days, wait…25 days…or it’s already crashed.
It’s important because China is the world’s second largest economy at over $18 trillion. U.S. consumers buy more than $450 billion in Chinese products and the Chinese buy $181 billion in U.S. products every year.
Not only would a China economic crisis mean a recession in the U.S. but also plunging stock markets around the world.
But is the sky really falling chicken little? YouTubers love to shock you and feed you a daily dose of outrage but do they really know what’s going on? In fact, researching for this video, I couldn’t find a single one that gave both points of view or actually told you what a China economic collapse would mean to YOU!
In this video, I’ll flashback to my days working as an actual economist to explain the economic crisis in China, how it got so bad and why things aren’t quite as bad as YouTubers like to make you believe. I’ll then reveal what this means for your money and the U.S. stock market!
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Now I’m going to walk you through how it got so bad that we’re talking about a China collapse but big shocker…the old stock analyst and economist isn’t the best at telling stories. Other YouTubers like Graham Stephen and Andrei Jikh are better at that and they do bring up some good points so I’ll link to their videos in the description, check those out for the background and I’ll cover the other side of the story in this video, the one you’re not hearing anywhere else.
Like all countries, the Chinese government borrowed its way out of the 2008 financial crisis with massive stimulus packages that ballooned the total debt from 140% of the economy to 250% by 2018. Here you see the total debt as a percentage of GDP for China was well under Japan, the U.S. and Europe before the financial crisis. It’s now caught up with the U.S. and Europe though still well under the 400%-plus in Japan.
Of course, the argument is, a country can’t go into debt forever…that the bill always comes due. And while higher debt in Japan has slowed its economy, it’s been above 300% debt-to-GDP for decades and hasn’t suffered a crash.
But not all of China’s debt is owed by the government. In fact, most of it is private company debt and that’s where the real problem is coming from. This chart shows data from the Bank of International Settlements, showing the percentage of debt to GDP from three sources; what’s owed by the government, households and businesses.
And China’s government owes just 67% of GDP in debt, that’s less than half the 129% debt to GDP we see here owed by the U.S. government. Household debt in China is also lower at 61% the size of the economy compared to here in the US with 80% debt-to-GDP owed by consumers.
It’s really here in this non-financial corporations debt that we see the problem in China. This has surged to 160% the size of the economy, roughly $29 trillion owed by businesses, versus what we see in the United States at 85% debt-to-GDP for corporates or about $24 trillion dollars.
How this got so bad is, over the last decade, real estate developers have built up insane leverage to finance projects. A company would finance buyers to pre-sell its apartments to before they were built. It would then use these financed assets to get a loan from the bank to buy more property…pre-sell those apartments and the cycle just kept repeating into hundreds of billions in debt.
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And it’s worked because real estate has been a great investment in China. Annual price appreciation has been between five- to ten-percent over more than a decade with some years growing 15% and more.
Besides that return, home ownership is a cultural phenomenon in China. Because the stock market and other markets aren’t as developed, home ownership has always dominated as a way to build generational wealth. As a result, 90% of the households in China own their home with many owning investment properties as well.
Now a lot of YouTubers have been comparing the use of leverage by developers to a Ponzi scheme…mostly because it’s fashionable to call everything a Ponzi scheme to scare viewers, but that’s not what’s happening here.
A Ponzi scheme is when new investor money is used to pay out returns to previous investors, to make those returns seem legit but there’s no real investment going on. It’s unsustainable because you always need that new investor money, there are no real returns because there are no investments.
Instead, here we have legitimate real estate projects financed through mortgages and buyers. And while the projects have been delayed and some buyers are protesting, something I’ll detail later, this isn’t some scam that is now unraveling.
YouTubers are saying a crash is imminent because the developers are facing huge debt maturities this year that is forcing a solution. Developers owe $116 billion in loans due this year, $133 billion next year and $117 billion in 2024.
And a crash would be a ginormous problem. Real estate is a big part of the economy in China. Because of that cultural history, real estate is 29% of the total economy and 70% of household wealth is stored in property. That’s about twice as much as the 15% of the U.S. economy driven by the real estate market.
I’ll come back to China’s debt and why it’s not as bad as others want you to believe but let’s look at how bad this could get and what it means to you.
I’ll reveal exactly what this means for you as an investor next but first, I want to personally invite you to get the Weekly Bow Tie, our free weekly newsletter with all the stock market news, strategies and trends you need to know. Each week, before the market opens, I’ll show you what I’m watching and the stocks that could highlight the week. It’s all totally free, just something I like to do for you out there in the community so look for the sign-up link below.
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As the world’s second largest economy at $18 trillion GDP, China is inevitably linked to every other country. Chinese consumers buy more than $181 billion from U.S. companies each year and U.S. consumers buy nearly half a trillion from Chinese businesses. If China were to bust, the U.S. could see its economy collapse as well.
China buys more than half the global supply for most commodities. This is a great chart by Visual Capitalist showing exactly how much of 12 metals, energy and agricultural products goes to China. The country accounts for half the global copper demand and 59% of cement. For agricultural products like cotton, corn and pork, China consumes as much as 47% of the world’s production.
The China crisis is a big reason for the massive selloff in commodity prices this year. The price of copper has collapsed 27% since late last year and corn is down 15%.
If China were to crash and stop buying those commodities, we could see a mass bankruptcy of miners. Agriculture would collapse with a farm crisis to rival the 80s and it could be the start of a global depression.
Look, I’m the last person to be defending the Chinese government. I’m a patriot to my bones and the CCP is a failed system just waiting to happen but I’m also not going to sit here and try to shock you or lie to you just for the sake of views. There is another side of the story here that you are NOT getting from other YouTubers, a side that shows the economic collapse isn’t quite as terrible or as close-at-hand as you are being led to believe.
First, understand that economic measures for China aren’t like what we think of them here in the United States. Here we look at GDP growth and other economic data as a real measure of the economy…how much it grew or didn’t. Because China’s economy is controlled by the government though, and because it has a massive ability to issue debt or use its reserves, those economic measures are less of what happened and more of what the government planned.
I’ll show you next how the Chinese government could boost the economy by trillions of dollars if it wanted to avoid a real crisis. The only question is, how far is it willing to go and how much pain is it willing to take to bring debt down. This part of the conversation is getting into the weeds a little, understanding how the economy really works and that’s something most YouTubers don’t understand.
As for housing, China’s housing crisis is bad but as with everything there, you have to put the numbers into perspective. Saying tens of thousands of home buyers are refusing to pay their mortgages sounds like a cataclysmic scenario until you consider nine in ten of the 494 million households in China own their homes. That’s over 440 million homeowners so even if half a million mortgage payers went on strike…it would still only be a tenth of a percent or about one in every 1,000 mortgages.
And that cultural goal of owning a home, the fact that 70% of wealth is in real estate, isn’t going to change on one crisis. Housing has always been the way the Chinese save their money and instead of changing that, a drop in prices is more likely to mean buyers come into the market and ultimately support a floor on prices.
With government debt in China only 67% of GDP, less than half of where it is in the U.S. and other developed countries, the government has a lot of room to borrow and stimulate the economy.
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Does the corporate side of national debt at 160% of GDP need to come down…of course it does and we’re seeing that happen now, but chicken littles have been screaming about high debt-to-GDP of countries for decades and it has yet to cause the kind of depression they always warn of.
In fact, part of the reason for China’s government debt is a good problem to have and has helped it build over $3 trillion in reserves. Because U.S. consumers buy $480 billion in Chinese products and only sell about $180 billion in products to China, the country’s businesses have hundreds of billions in net dollar purchases a year. This would normally drive up the value of the Chinese currency, the renminbi, but the government buys these dollars from businesses and uses them to buy U.S. Treasury debt instead of converting the dollars to renminbi. It keeps the currency weak and Chinese products cheaper to buy in the global market.
That’s meant the Chinese government has built up a massive investment in U.S. Treasury debt, to the tune of $3.1 trillion. It’s leveled off here over the last six years because of government spending on stimulus programs and investment in its Belt & Road Initiative overseas but it’s still almost 17% the size of the economy saved away.
Now there would be some side effects of selling a big portion of that Treasury debt investment, like it would strengthen the renminbi and cause exports to be more expensive, but it still represents hundreds of billions the government could use to stimulate the economy. In fact, with the value of the dollar at a 10-year high against other currencies, now is the perfect time to sell some of those reserves.
For example, the total funding gap from lost land sales and the economic impact to local governments in China is estimated to be around $895 billion. That’s about 5% the size of the $18 trillion economy but still just a fraction of the reserves.
It’s easily manageable and in fact, we have precedents for it just in the last two decades. This chart by McKinsey & Company shows the percentage of GDP spent on stimulus for nine countries. The pandemic stimulus is in blue and the stimulus spent during the 2008 financial crisis in black. And you see, the U.S. government as a percentage of GDP spent 4.9% to get the economy back on track after the housing bubble burst.
China’s government has already started on those stimulus programs, cutting interest rates even as the rest of the world raises rates. So China is supporting its economy with cuts while here at home, the Fed is expected to increase borrowing costs from zero to 4% this year.
The government is also issuing $29 billion in special loans for stalled housing projects to make sure they get built and delivered to buyers. That won’t be enough but it’s a start. Bloomberg estimates it would take about 1.3% of GDP or $230 billion to complete all the underfunded projects.
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In June, China also announced a new strategy of 33 measures including tax cuts and rebates worth up to $396 billion to six industries including manufacturing and small business along with another $148 billion in new loan bank financing for delayed housing projects.
What does this all mean for you as an investor? First is that China’s economy is not going to collapse like so many have been warning. Slower growth, yes but not the sensational crash you hear about.
That means it’s more of a distraction than anything. A story to shock you and distract you from the fact that right here in the U.S., the Fed is raising rates to slow down the economy and causing a roller coaster in stocks. China will let some developers bankrupt and will bail out others, easing stimulus into the economy to avoid a crash. But in truth, in two years, we’ll look back and wonder where the big fireworks were.
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