By  Crush The Market

China’s amazing GDP growth and recovery experienced since the 2008 – 2009 crisis is slowing down. The rate of growth continues on a downward trajectory, as more economic problems begins to emerge that are accelerating its slowdown for the economy and global growth. These problems have been building for some time now and many of the problems now faced by China have stemmed from the economic policy decisions that the Government implemented to fight off the last crisis.

How Did China’s Economic Problems Start?

China’s economic recovery from the 2008 crisis has been remarkable as the country was able to quickly adapt to the global challenges that swept through and effected its own economy. China was able to shift the focus temporarily away from exports, to their own domestic economy as they began to accelerate spending on fixed asset expenditure on various large infrastructure projects around the country.  This was funded by lowering interest rates and accelerating the use of debt to spur their own economic recovery. By implementing this strategy it also spurred demand for overall consumer spending as more credit began to flow through their economy.

This strategy worked very well and within a short period of time the flow of credit and spending began to shift the growth of China’s economy higher once again. As a result, it lifted the global economy higher as China grew imports to fuel its large fixed investment expenditure projects and increased consumer spending. This allowed many commodity based countries like Canada, Brazil, US and Australia among others to bounce back quickly from the 2008 economic crisis. The increase growth in consumer spending in China also facilitated countries with a large manufacturing base like the EU region to also return to growth.

As a direct result of China’s return to strong GDP growth, global foreign capital investment in China  soared, as investors were attracted by the growth rates.

So why does China have some many problems effecting its economy in 2017?

One of the main causes is because China’s economic recovery was predominately achieved by utilizing record amounts of debt to stimulate demand and now the debt load is becoming an anchor to their economy. (See chart below)

Before the 2008 / 2009 crisis, debt to GDP in China was moving sideways at around 130%, as new debt growth offset new growth in GDP.  After the crisis hit the debt to GDP skyrocketed, meaning the new debt was no longer having the same effect on demand and GDP growth like it did prior to 2008 –  2009 crisis. The probably cause for the shift in effectiveness on GDP growth after the crisis, was due to increased debt towards inefficient projects designed only to spur immediate demand regardless if the projects were financially viable.

Since demand  now has been effected by the debt levels of mostly inefficient debt accumulation, it began to hamper growth and the economy began to slow after a few short years.

Now that the economy slow down is accelerating, the capital that came from abroad during the China growth recovery, together with domestic savings of China’s citizens is fleeing China, in search of new growth opportunities in other countries.

The capital flight of over $1.2 trillion since 2015, is impacting on China’s financial system and its currency the Yuan as financial conditions have tightened. This has impacted demand in China as access to credit becomes more difficult. This in turn spurs more demand for capital to find a new home globally as the currency becomes weaker as well as growth.

China Debt to GDP ratio chart

Click chart for source: Zerohedge.com

How  Are The Economic Problems Impacting China’s Growth?

Real Household Disposable Income Growth Falling

Prior to 2008 – 2009 crisis, China’s real household disposable income was growing above 10% (See chart below). It reached a temporary high of 14% y/y on growth just after the crisis took hold as the stimulus spurred growth and incomes for a short period. After the crisis was in full swing the real household disposable income slowed to 6-7 % growth.

After peaking in 2012 income continued to decrease, as it made its way to just above 4% growth in real household disposable income in 2015. A level of growth that was considerable lower than the trough reached in 2009.

Since the new debt that flowed into the economy during the recovery was not introduced in an efficient way, the increased debt provided only a short term spike in growth rates. This most likely caused the slow down in real household disposable income growth as the debt began to wane on overall demand rather than expanding it.

Picture

Click chart for source: Comcap.media

China’s Capital Flight Explained

The flow of capital leaving the country has been accelerating in late 2016 and 2017. This short video below explains why the rush of capital out of China is occurring.

China Tries To Stem The Capital Flight Problem

Since record amounts of capital is continuing to leave China each month it has placed an enormous amount of pressure on the financial system, as the outflow pressure is tightening financial conditions and liquidity within China. To tackle the tightening conditions, the Chinese Government has been adding massive amounts of liquidity that spiked in 2016 to attempt to stem the pressure. While they continue to add billions in liquidity the People’s Bank Of China (PBOC) have had to sell their foreign reserves assets to fund their liquidity injections and support the currency.

China's medium term lending & PBOC foreign assets on balance sheet.

Click chart for source: Bloomberg.com

The Outflow Pressure Continues In 2017

The chart below highlights the fact that China continues to struggle with managing their financial conditions as their financial system has once again required a surge of liquidity injections to ease the tightening conditions. Over the 5 day period from the 16th to the 20th January 2017, the PBOC had pumped in $1,130 billion Yuan into the system.

Without these injections the banks would face a cash crunch and the whole system would seize up and their economy would go from slowing growth to a crash in GDP.

PBOC Net injection liquidity chart

Click chart for source: Zerohedge.com

Defending The Yuan To Slow  Capital Flight

The existing policy of China is to have an orderly and planned depreciation of the Yuan currency relative to the US dollar, in order to keep their export driven economy competitive internationally.

However, as the capital flight began to increase in reaction to the Government decision to devalue the Yuan by larger amounts in August 2015, the currency has become more volatile on the market as the Yuan began to depreciate at a faster rate to what the Government had planned. To reduce the pace of devaluation, the PBOC has been actively supporting the Yuan by selling their foreign US dollar reserves to allow the Yuan to appreciate and offset the selling demand from capital leaving the country. By engaging in continuous support of Yuan they have depleted their reserves of US dollars by over $800 billion to support the Yuan.

Depleting Foreign Exchange Reserves

Since the Yuan is pegged

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