Superb analysis out of SocGen analysts this morning. Dylan Grice says the Chinese economy has many similarities to the Japanese economy before it imploded in the 90’s. He cites 8 reasons why the Chinese economy is likely to be an even larger implosion than the Japanese economy:
Studying the lessons from Japan’s lost decade(s) is key for anyone seeking to understand today’s post-bubble world. But a closer reading of Japan’s financial history illuminates today’s China far more. In the early 1980s, on the eve of its financial liberalisation, Japan was the rising power from the East set to overtake the West. Younger and growing rapidly, it was still a decade away from its climactic and catastrophic bubble peak. This is where China is now.
- Japan’s deflationary experience since its bubble burst haunts policy makers and investors, who are confronted with a bewildering range of theories explaining what has gone wrong and how a similar scenario can or can’t be avoided.
- But the real cause of Japan’s deflation is probably more demographic than debt-related. If so, maybe we should be more worried about the side-effects of an ongoing stimulus overdose aimed at reviving the dead, rather than fighting a more ordinary bout of flu.
- Japan has been the first industrial economy to begin demographic contraction. Indeed, thanks to Deng Xiaoping’s 1979 one child policy, China will soon face the same problem.
- But it is unlikely China will suffer the same immediate fate. In fact, further reflection on the similarities between China and Japan leads one to realise that many of the challenges confronting China today have already been faced by Japan, demography being only one.
- From the strained currency diplomacy to the accusation of favouring exports over domestic demand, from the Western marvelling at Confucian capitalism to the sense of inevitability about the rising of a great power in the East all were as true for Japan 30 years ago as they are of China today.
- And Japan 30 or so years ago might be a more fruitful analogy altogether. There is a clear historic coincidence of manias and geopolitical shifts. In the 1980s, Japan’s developing financial bubble reflected a shifting of the balance of power in its direction.
- But the geopolitical shift towards China now underway dwarfs that seen in Japan in the 1980s, and probably anything yet seen in the history of the modern world. A commensurately seismic mania would lead to excesses beyond all proportion to the periodic bouts of frothiness seen so far.
- Japan’s experience also hints at what may be the future catalyst unleashing this frenzy: capital account liberalisation. Financial history is filled with financial liberalisations gone wrong and Japan’s bubble can be traced directly to the removal of controls on international capital flows and banking in the early 1980s. Seeking a larger international role for the renminbi, China is now, albeit tentatively, embarking on a similar path. Full liberalisation, when it occurs, could be the starting gun for the biggest bubble the world has ever seen.