CHICAGO – A slowdown in Chinese demand is the one factor that could cool off hot grain markets.
Nicholas Lardy, senior fellow with the Petterson Institute for International Economics, says it is a distinct possibility.
Lardy, who was introduced to delegates attending DTN’s Ag Summit as America’s leading expert on the Chinese economy, said the growth in China’s economy is deceiving.
On the surface, it appears as if nothing could temper an economy that has been expanding at an average of 9.9 percent a year for the past 30 years.
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“That is the longest, most rapid period of growth for any economy in recorded history,” he said.
However, even China’s leaders say the economy has been imbalanced of late because the growth in consumption is not keeping pace with the growth in gross domestic product.
Lardy said that is because the amount of money socked away in personal savings has increased dramatically.
People have been setting aside 36 percent of their after-tax income over the last five years compared to 29 percent in the seven previous years.
A lot of that money is invested in housing, with 10 percent of China’s gross domestic product spent on real estate.
“When I was a professor and I gave numbers to students, I said, ‘you always have to ask if 10 percent is a big number or a small number.’ It’s a very big number,” said Lardy.
To put it in perspective, the amount of GDP invested in housing peaked at six percent in the U.S. during the first half of the 2000s, leading to the housing bubble and a painfully slow recovery from recession.
In 1997, 70 percent of household wealth in China was in bank deposits and 20 percent in property. By 2010, 40 percent was in the bank and 40 percent in residential property.
Chinese investors are buying second, third or fourth apartments because they believe it’s a good investment.
“Sounds a little familiar, doesn’t it?” said Lardy.
He wonders if China is heading toward the same kind of real estate bubble that crippled the U.S. economy. At some point, there will be a limit on how much household wealth can be directed toward residential property.
Housing prices will crash when that time comes, putting the brakes on the Chinese economy and disrupting global agricultural commodity markets.
“If there is a big price correction, it certainly is going to have a negative wealth effect and cause people to slow down their rate of consumption,” said Lardy.
“Private consumption expenditure would take a big hit and China would no longer be the engine for the global economy.”
Growth in GDP could easily slow to half of its recent pace. Property is now the biggest driver of the Chinese economy, supplanting manufacturing and agriculture, which were the drivers in the 1980s and 1990s.
A slowdown in new housing construction would lead to massive layoffs in the construction, cement and steel industries.
Local governments derive about 60 percent of their budgets from leasing land to property developers. Prices are already starting to soften on those leases, which would have a direct impact on infrastructure projects and social services.
The good thing is that Chinese lending institutions have been more sensible than U.S. banks, never allowing zero down payment mortgages. In fact, the down payment on a mortgage that is not a buyer’s principal residence is 60 percent.
However, Lardy said the economy is so dependent on real estate investment that the hit to economic growth of a crash in housing prices could be much greater in China than it was in the U.S.
The solution to this threat to the Chinese economy is for the government to shift to a policy of market-oriented interest rates rather than imposing its low-interest policy on bank deposits and loans.
That would provide higher returns to those who want to put their money in the bank.
Interest earned from those savings would increase incomes and encourage consumption rather than investment.
Stimulating consumption in America’s biggest grain export market would help support crop prices across the board.
“It would certainly be good to people in this room,” Lardy told farmers in the audience.
