A wide gulf separates the two most prominent views regarding China’s future. Faced with slowing economic growth, one side says its leaders will deftly navigate a soft landing, while the other claims it will face an implosion similar to those that befell Japan 20 years ago and the US in 2008. Count GMO, a firm that has built its reputation on its ability to identify a bubble about to pop, in the latter camp.
Edward Chancellor, who focuses on capital market research as a member of Grantham, Mayo, Van Otterloo’s asset allocation team, laid out that negative forecast last week when he spoke in London at a research symposium hosted by Societe Generale.
Accusing the soft-landing camp of “uncritically accepting” China’s growth story and placing an “overblown belief” in the authorities in Beijing, Chancellor listed 10 tell-tale traits of an economy on the verge of collapse.
China, according to Chancellor, meets that classic definition of a bubble.
Let’s look at Chancellor’s historical examples and how China fits into his paradigm.
Ten signs you know you are in a bubble
“Having looked about 300 years of financial history,” Chancellor said, “I’ve been able to reduce it, for the sake of simplicity and storytelling, to 10 characteristics of a great mania.”
First among them is a growth story that is uncritically accepted. Chancellor cited the dotcom era, when analysts routinely assumed that virtually every company would follow an shaped growth curve, where initial growth was tepid, as companies expanded into niche markets. Rapid market growth followed, as firms were assumed to possess a dominant strategy, as was followed by a leveling off of growth, as markets matured.
Chancellor related such uniformity of thinking to his experience working in Hong Kong, where he said that the dream of the typical businessman there was to sell a toothbrush (or other everyday goods) to every Chinese person, as a way to tap into its growing middle class consumer demand.
But that dream has turned into a nightmare for most. Chancellor cited projections of a billion urban consumers in China’s cities by 2030. Economists, however, “are not very good at predicting anything, much less demographics,” he said. Migration to cities is a pro-cyclical phenomenon, according to Chancellor, and once its economy slows, China’s population will exit the cities. He cited similar patterns in the US, where Chicago’s population grew during boom periods and shrank or stalled when the economy slowed.
Furthermore, China’s population, which is set to contract in a few years, is even more reason to be skeptical about projections of a billion consumers, Chancellor said.
Chancellor’s second sign was overconfidence in authorities. A clear example from the US experience was Bob Woodward’s book, Maestro, a tribute to Alan Greenspan published at the peak of the dot-com bubble in 2001. Chancellor cited several similarly laudatory books about China’s leaders, but he offered a starkly different take on China’s braintrust. China’s leaders “are not incompetent when it comes to lining their own pockets,” he said, and through corruption “have made a great deal of money in recent years.”