KRIS SAYCE: Bad News from the “Asian Century”

Guest post by Kris Sayce from Money Morning Australia 

Part 1: Bad News from the “Asian Century”

Writing in Melbourne’s Age newspaper, Climate change adviser Ross Garnaut

has lambasted Australian executives for destroying shareholder funds in the blind belief China’s demand for Australia’s big three mining exports would continue to climb.’ 

Perhaps Mr Garnaut should ask why company executives are blowing up shareholder funds.

Maybe it’s because for 30 years, Australian governments have spouted off about the Asian economic boom.

And now the Aussie government has just released the Asian Century white paper. The gist of the white paper is that Asia will undergo an economic boom for another 100 years.

But before you trust everything the government says, just remember that they can’t even correctly forecast their budgets six months in advance. So we find it hard to take a 100-year forecast with anything more than a pinch of salt.

Our advice? Ignore the long-range forecast and look at history instead. That’s because history tends to offer useful lessons for the future…including a lesson Australia could learn from previous Asian booms and busts…

Take this report from the New York Times in 1996:

‘Are East Asia’s fiercely competitive tiger economies starting to lose their fangs?

‘Things probably have not gotten quite that bad. But if the teeth are still intact, they have lost some of their sharpness of late. Export growth for many countries in the region – including the original “Four Tigers” of Singapore, Taiwan, Hong Kong and South Korea, as well as a half-dozen other countries that are following the same fast-growth path – has slowed sharply this year. And China’s exports have actually declined.

‘The deceleration in part reflects a healthy cooling off of economies that were running the risk of overheating. But it also raises questions about the staying power of East Asia’s export-driven economic boom. In particular, it translates into a deterioration of the region’s trade balance.’

One year later, the Asian Economic Crisis was in full flow. The Asian Tiger economies collapsed and their currencies were devalued. To rub the salt in, the International Monetary Fund (IMF) handed out bailout money.

In simple terms, the cause of the Asian Economic Crisis was over-investment, over-borrowing, and over-enthusiasm…

Asian Tiger Slaughtered

It was a classic bubble. An investment or economy begins growing on its own fundamentals. This attracts attention. So more people invest. Things get even better…imagine if growth continued at this rate.

Then the snake-oil salesmen arrive. In this case they called it the ‘Asian Tiger’. Businesses expanded and new businesses appeared. But because they hadn’t saved enough, they had to borrow money.

The banks cautiously loaned money at first. But when they started seeing the returns, they imagined what they could have made if they had loaned twice or three-times as much.

You get the picture. In the end, like every investment bubble in the history of mankind, the world runs out of fools who are prepared to buy into the bubble.

The euphoria that sucked everyone in disappears. Replacing it is fright as everyone rushes for the exit.

They sell the investment at a loss. Businesses can’t sell enough goods to repay the loans. That means loans go unpaid. The currency falls as investors abandon it for safe haven currencies…and finally, the whole economy collapses in a heap.

That’s the (abridged) story of the Asian Financial Crisis. And it’s the story of every other asset or economic bubble…and it’s the story of the Chinese economic bubble.

‘Oh, but Kris, China is different, it doesn’t have a bunch of external debt. It owns other nations’ debts, so it will be fine.’

We often hear that excuse.

But, it’s worth paying attention to an article in Forbes earlier this year:

‘Here’s some terrific news about China’s economy: at the end of last year, the debt-to-GDP ratio of the Chinese government, the key measure of its fiscal sustainability, stood at 16.3%. That’s an improvement from the already impressive 17% at year-end 2010.

‘Based in large part on Beijing’s low debt load, the Economist’s “wiggle-room index,” which ranks economies on their ability to afford stimulative measures, assigns a great rating to China. Of 27 emerging nations, only petroleum-blessed Saudi Arabia and Indonesia look stronger…

‘All this sounds wonderful, but none of it correlates with the facts. The 16.3% calculation excludes Beijing’s “hidden liabilities.” Once you add them in, China’s debt-to-GDP ratio increases to somewhere between 90% and 160%. And if you believe Beijing has been overstating its GDP recently – it has, at least starting from the last quarter of last year – China’s ratio approximates Greece’s 164%.’

Greece is Nothing Compared to China

Wow! The European Union is on the verge of collapse, and asset markets have crashed due to Greece’s debt problems. Given the relative size of the Greek economy to the Chinese economy…

Click to enlarge

…can you imagine what will happen to asset prices when the Chinese economy implodes? It almost doesn’t bear thinking about. Only you have to think about it because the Australian economy is handcuffed to the Chinese economy.

Now, we’re not saying that China won’t be an economic force…to a large degree it already is. But what we are saying is something we’ve said for the past couple of years.

That is, regardless of a country’s strength, economic growth doesn’t go up non-stop forever. Booming economies will always have periods of bust.

If an economy sees excessive credit growth and an economic boom, as sure as night follows day, that economy will see credit contraction and an economic bust.

Bottom line: 100 years is a long time, and anything can happen. But don’t fall for the spin that Australia’s future wealth is safe.

The Chinese economy is following the same path as every other economic boom…and it will soon follow the same path as every other economic bust.

History will show that the Asian Financial Crisis was nothing compared to the coming fallout from the Chinese Financial Crisis.

Part II: Is the “Asian Century” Already Kaput?

It’s getting tasty in China.

Yesterday, the Financial Times noted:

‘Chinese listed companies have reported a sharp rise in unpaid bills during the third quarter, in one of the clearest signs yet of the toll that China’s economic slowdown is taking on corporate balance sheets.’

We wonder how that will fit in with the government’s plans for the so-called ‘Asian Century.’ Not very well we’ll wager…

Last weekend, Australian Prime Minister Julia Gillard released the long-awaited Australia in the Asian Century white paper.

The paper notes:

‘The Asian century is an Australian opportunity. As the global centre of gravity shifts to our region, the tyranny of distance is being replaced by the prospects of proximity. Australia is located in the right place at the right time – in the Asian region in the Asian century.

‘For several decades, Australian businesses, exporters and the community have grown their footprint across the region. Today, for Australia, the minerals and energy boom is the most visible, but not the only, aspect of Asia’s rise. As the century unfolds, the growth in our region will impact on almost all of our economy and society.’

It sounds impressive, right?

The argument is that Asia will become the global economic powerhouse. Therefore, because Australia is on Asia’s doorstep the Australian economy will benefit.

As impressive as it sounds, it’s also completely misguided, and we’re sorry to say, woefully wrong.

But we look at it like this: it’s like a fat man thinking he’ll lose weight if he stands next to a skinny man!

But we’re not the only one to criticise the white paper. Michael Pascoe wrote in Melbourne’s Age that ‘the PM has offered a statement of the obvious.’

While Clinton Dines, formerly of BHP China, told the Age, ‘With a slowdown and budget deficit looming, one suspects that Ken Henry’s efforts are doomed to go the way of his tax reforms.’

We’re happy when the mainstream criticizes government policy. Only this time, the mainstream is wrong too…

The “Asian Century” is Already History

The reality is when we look back at today from the future, the Asian century (in the way the government envisions it) will prove to be nothing more than an Asian decade…or two decades at the most.

If the government, businesses and investors have pinned their hopes on the Chinese Dragon and Asian Tiger, they’ll be sorely disappointed.

By attaching their hopes to Asia, they’re in danger of missing out on the real story of the next 100 years. It’s what we call the ‘Wired Century.’  (This is a theme we wrote about in the latest issue of Australian Small-Cap Investigator.)

The fact is, in some ways the era of backing one geographic location over another are over. So are the days of benefiting from being close to a booming nation.

Let’s be honest, Australia’s closeness to China hasn’t been as important to the Australian economy as most think. What’s more important is that Australia has the natural resources that China needs – copper, iron ore, and coal.

But Brazil has a bunch of this stuff too. So does Canada, Chile and Africa. And the last time we checked, Brazil is three times as far from China as Western Australia is from China…and that’s as the crow flies. In nautical miles the distance is even greater.

And if we’re not mistaken, the US has relied on Middle Eastern oil for years. You could hardly call them neighbours.

Distance doesn’t matter compared to having a resource in demand. The fact that Australia has a bunch of resources and is close to China is just a bonus.

In short, anyone hoping that Australia will cash in on the supposed ‘Asian Century’ is kidding themselves.

Australia Needs to Exploit the Wired Century

Yes, there are benefits of being close, but there’s something much more import. And that’s technological innovation and global trade.

This is the real benefit for Australia.

So if you’re after a clue about the future, we suggest you take in the two following excerpts. First this from the Age:

‘The rise of the internet has killed the newspaper business model, but demand for television remains enormous.

‘According to The Cross Platform Report by researcher Nielsen, United States viewers still spend around four hours a day watching TV, barely down from record highs.

‘Does this make the battered shares of Seven, Nine and Ten cheap buying for potentially-rich stocks? No.

‘Australian television broadcasters are at the very same tipping point newspapers reached a few years ago, just before their problems became near-terminal.’

And this from the London Times:

‘The world is “drowning in data” and computing companies are running out of space to store it, one of the technology sector’s best-known – and most controversial – figures has warned.

‘Mark Hurd, the president of Oracle, said that the amount of data being produced by the nine billion devices connected to the internet had grown eightfold over the past seven years, putting incredible strain on the companies that need to process and store it all.’

New technology, new business practices, and new consumer behaviour is having a big impact on the local and world economy. And that impact will only grow.

As we wrote in the latest issue of Australian Small-Cap Investigator, 16 years ago the Sayce household only had one device connected to the internet (a desktop computer).

Today, between  this writer, the missus and two kids, we have 12 internet-enabled devices. And as far as we’re concerned, the world is barely 5% of the way through the technological revolution.

The Most Important Skills You Can Learn

Bottom line: forget the Asian century. Forget the nonsense about forcing kids to learn Mandarin, Japanese, Hindi and Indonesian.

Sure, those skills will be handy. But on the importance scale, they are far, far behind the most important skills any kid (or adult) could learn today. We’re talking about encouraging kids to learn more technological and web skills.

If Australia (or anywhere) has any chance of building a successful economy over the next hundred years it won’t be through foreign languages or as the mainstream economists seem to think, by building more houses, it will be by embracing and exploiting the Wired Century.

That’s the future for Australasia. But only if governments stops butting in and let schools and businesses get on with building those skills.

Cheers,
Kris

Kris Sayce is an Investment Director for Port Phillip Publishing and an editor for Money Morning Australia.