China’s slowdown & its implication for Australia

July 22nd, 2008

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Back in February this year in Will China slow down from 2009?, we said that

Dear readers, do you see what we are trying to mean? Make no mistake about this: the Chinese economy will slow down appreciably for the Olympics. We believe it will not be just a quick and temporary once-off slowdown- rather it will be a time for the Chinese economy to take a breather and cool down significantly, both by the design of the Chinese government and the effects of a US recession. The giddy and euphoric economic growth of 2007 will not be so ecstatic in 2008 and beyond (but not forever, we guess- but touch wood, if China fall into total social breakdown, then all bets are off… again, touch wood).

It is clear that at the eve of the Olympics, statistical numbers revealed that China’s economy is slowing. As this article from FN Arena reported, China Slowing,

Chinese growth in the June quarter declined to 10.1% from 10.6% in the March quarter, an outcome slightly below consensus forecasts of an increase of 10.3%. According to Danske Bank the shortfall was largely the result of weaker export growth, as domestic demand continues at solid levels.

There are anecdotal indications of this too. Marc Faber, in a recent interview a few weeks ago (see Marc Faber: Let Big Brokers Fail; Buy Gold Not Oil ), said that

As you may know, I travel extensively and I’m not an economist like Mr. Ben Bernanke who reads textbooks and write papers; but I talk to people. And I can assure you: worldwide, there has been a meaningful slowdown in business. And I believe that the demand for commodities will come off in the second half of this year… very meaningfully, including demand in China and India and so, near term, I’m negative about commodities and I wouldn’t buy there here; whereby the commodities bull market may still be intact for many years to come…

At this point, we have to ask these crucial questions: (1) Is this Chinese slowdown merely a temporary blip for the sake of the Olympics (i.e. after the Olympics, the break-neck growth will resume again)? (2) Or is it, as we explained in Will China slow down from 2009?, a chance to catch a breather for a while? (3) Or worse still, a pre-cursor to a major economic correction, as we explained in Can China really ?de-couple? from a US recession??

The theory supporting (1) is that many of China’s factories closed to clear the air for the Olympics. Therefore, according to that theory, production will resume once the Olympics are out of the way. However, there is another theory against (1)- many Chinese infrastructure investment spending are for the glory of the Olympics show-case. Therefore, once it is out of the way, such investments will not proceed in the same intensity as before.

For (3), we cannot really quantify the risk of such happening. Even if it is going to happen, it may not be imminent. This falls into the realm of Black Swans.

Our feeling is that, (2) is the most likely outcome. If that is the case, what will be the implication for Australia? Well, the mining sector may be doing just fine, albeit with a limited slowdown. It will not be as hot as before, when the resource boom was at its maximum intensity a couple of years ago. But with the rest of the economy slowing down, we doubt Australia’s mining sector can pull the rest of the country out of this lethargy. That is where the danger lies. With so much debt lying around, Australia’s economy cannot afford to slowdown. If it slows down too much, the economy may stall and fall into a serious recession. As we explained before in Can lower interest rates re-inflate the property price bubble?,

But what if the economy slows down too much for the RBA?s liking? In that case, given the high levels of debt of Australians, if the economy slows down too much, the Australian economy can tip into a dangerous downward deflationary spiral.

Please note: we are NOT predicting this will happen in the forecasting sense.

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