Sunday, August 29, 2010

Loans for Consumption

In the 1920s and into the 1930s one response to the increased production capacity of the modern industrial assembly techniques was the beginning of consumer finance.  At that time it generally took the form of installment payments.  China, with the a bubble driven production capacity faces similar difficulties today.

Relevant to this issue, Michael Pettis does another fine piece on the Chinese economy.  This is actually only a small portion of it.

Have We Underestimated Chinese Consumption? Aug 27th, 2010 by Michael Pettis

How do we know that China has an under-consumption problem? To answer that question it is unnecessary even to look at the consumption statistics. All you need to know is that China has a very high investment rate (perhaps the highest in the world) and a huge trade surplus.
Every country produces goods and either consumes or invests those goods. This is not quite an accounting identity, but it becomes one if you take into account the trade balance. Why? Because if it produces more than it consumes or invests, it must run a trade surplus. If it produces less, it must run a trade deficit. In other words by definition what ever you produce is equal to what you invest plus what you consume plus or minus the trade balance.

China has an extremely high investment rate, perhaps the highest ever recorded for a medium or large economy. Countries with high investment rates should normally run trade deficits, since there is so little left over of their production for them to consume that they must import the balance. This is what happened, for example, to the US during most of the 19th Century.

But China has probably the highest trade surplus ever recorded. This means that an extraordinarily large portion of its production is invested, and another extraordinarily large portion is exported. So what about consumption? The only way a country can run an extraordinarily high investment rate and an extraordinarily high trade surplus is if consumption is extraordinarily low.

So almosot by definition we know that consumption in China is extraordinarily low as a share of its total production. It is unnecessary to check consumption statistics to prove this.

In fact official statistics do prove it. They show that Chinese households consumed a little less than 36% of total GDP last year. This is an unprecedented number, much lower than the 65-70% typical of the US and Europe and even far below the 50-55% typical of other low-consuming Asian countries.

Fairly commen sensical but people cannot seem to get there without the help of Michael Pettis.
 The USA was the high surplus and net lending country going into the Great Depression.  It did not work out very well for us. Germany was the previouslly expansionary populist nationalistic country.  Didn't work out real well for them (or anyone else) either. The Chinese bubble just really cannot turn out well.

No comments: