WEBVTT - This Is Why The China Bubble Never Seems To Pop 0:00:11.000 --> 0:00:14.480 Hello, and welcome to another episode of the Odd Lots Podcast. 0:00:14.520 --> 0:00:19.480 I'm Joe Weisenthal and I'm Tracy Halliway, Tracy, there's been 0:00:19.520 --> 0:00:24.400 some interesting data out of China lately regarding the recovery 0:00:24.880 --> 0:00:29.000 from the coronavirus crisis. You're gonna have to narrow that down, 0:00:29.280 --> 0:00:32.080 but are you. Are you talking about some of the 0:00:32.200 --> 0:00:35.800 data that sort of supports the notion that they're seeing 0:00:36.600 --> 0:00:39.320 something of a recovery, although it's mostly driven on the 0:00:39.360 --> 0:00:42.080 supply side rather than the demand side. Is that what 0:00:42.159 --> 0:00:44.519 you're talking about? Yeah, sorry, I was very super cryptic, 0:00:44.560 --> 0:00:47.200 but yes, this idea that we have seen this sort 0:00:47.240 --> 0:00:50.400 of what some people might characterize as kind of a 0:00:50.479 --> 0:00:53.959 V shaped recovery on the industrial side, sort of an 0:00:53.960 --> 0:00:59.400 impressively fast and resilient restart of the factories and so forth, 0:00:59.760 --> 0:01:03.160 by not so much on the demand side yet, at 0:01:03.200 --> 0:01:04.880 least from the data. And maybe you have a better 0:01:04.920 --> 0:01:07.480 sense of this from the Hong Kong perspective, but it 0:01:07.560 --> 0:01:10.600 still seems like consumption shopping and going out to eat 0:01:10.959 --> 0:01:15.200 still still kind of tame. Yeah, I think that's exactly right. 0:01:15.240 --> 0:01:16.960 Although I have to say in Hong Kong we are 0:01:17.040 --> 0:01:19.800 starting to see a little bit of a pickup, mostly 0:01:19.880 --> 0:01:23.640 because everyone is stuck in the city. They can't actually leave. 0:01:23.920 --> 0:01:25.840 Um when they have to come back, they have to 0:01:25.880 --> 0:01:29.280 go into two weeks quarantine. So everyone is taking staycations 0:01:29.720 --> 0:01:33.280 and going out quite a bit lately. But with that 0:01:33.360 --> 0:01:36.919 exception made, yes, we are seeing a stronger supply driven 0:01:36.959 --> 0:01:39.440 recovery than we are on the demand side. And one 0:01:39.480 --> 0:01:42.080 thing that I find interesting about that is that it 0:01:42.240 --> 0:01:47.600 sort of speaks to the very nature of China's economic model. 0:01:47.680 --> 0:01:49.880 I guess one of the benefits of having a command 0:01:49.880 --> 0:01:52.880 economy is that when times are bad, you can kind 0:01:52.880 --> 0:01:56.240 of command everyone to go back to work, and you 0:01:56.280 --> 0:02:00.320 can tell companies to maintain jobs and start making products again. 0:02:00.840 --> 0:02:03.640 But of course, you know, the downside of a command 0:02:03.640 --> 0:02:06.680 economy is that you might not necessarily get as strong 0:02:06.720 --> 0:02:12.000 a consumer as you want. Right So, the the industrial side, 0:02:12.280 --> 0:02:15.560 the corporate side, is very much an extension of policy, 0:02:16.120 --> 0:02:20.040 much more so than consumption. And so this this this 0:02:20.080 --> 0:02:23.480 sort of dual speed recovery that we're seeing in China. 0:02:23.720 --> 0:02:25.760 It may be a cue right now, but it speaks 0:02:25.800 --> 0:02:28.160 to something much broader. And I'm thinking also, we had 0:02:28.200 --> 0:02:32.000 a recent discussion with Matt Klein just this sort of 0:02:32.120 --> 0:02:36.480 general idea that the Chinese economy has never really been 0:02:36.520 --> 0:02:40.240 as sort of consumption focused, household focused as it is 0:02:40.520 --> 0:02:45.320 uh investment and production focused. Yeah, that's exactly right. And 0:02:45.400 --> 0:02:48.280 of course the other big theme that's cropping up at 0:02:48.320 --> 0:02:52.160 the moment is what China is doing to support its 0:02:52.360 --> 0:02:55.160 financial system. So we know that the authorities are trying 0:02:55.160 --> 0:02:58.400 to walk this fine line between cropping up the banks 0:02:58.440 --> 0:03:02.520 but also you know, avoiding moral hazard and trying not 0:03:02.639 --> 0:03:06.079 to accumulate even more debt. So that's something else that's 0:03:06.080 --> 0:03:09.119 going on at the moment. So all these things are 0:03:09.240 --> 0:03:13.480 like kind of like microcosms or cute versions of stories 0:03:13.520 --> 0:03:17.280 that I mean, you and I haven't covered, um talked 0:03:17.280 --> 0:03:20.320 about the world economy for years now, literally since I 0:03:20.360 --> 0:03:23.160 think the first day that I, you know, been covering 0:03:23.160 --> 0:03:26.799 the news. You just hear forever about the China bubble, 0:03:26.840 --> 0:03:29.160 and it's the most obvious bubble, and there was all 0:03:29.240 --> 0:03:33.160 this debt supposedly and all this bad debt, and it's 0:03:33.200 --> 0:03:35.960 sort of taken for granted that it must come to 0:03:36.000 --> 0:03:38.040 an end, that there must be a reckoning. And we 0:03:38.080 --> 0:03:42.720 know people shorting China forever and talking about how how 0:03:42.800 --> 0:03:46.200 dysfunctional the system is. But you know, it's been years 0:03:46.200 --> 0:03:48.480 and years since we've been talking about this and the 0:03:48.640 --> 0:03:53.560 great sort of Chinese I don't know, reset bubble popping. 0:03:53.640 --> 0:03:57.920 It never quite seems to happen. Yeah, China is forever 0:03:58.000 --> 0:04:01.480 a debt crisis sort of on the brink, and yep, 0:04:01.680 --> 0:04:05.240 it never seems to happen. There's always these fall starts, 0:04:05.240 --> 0:04:08.480 like you'll see something it's like, oh, some apartment developer 0:04:08.520 --> 0:04:11.080 couldn't sell their units, and everyone like, this is it. 0:04:11.400 --> 0:04:13.280 This is the moment we've all been waiting for. The 0:04:13.360 --> 0:04:17.240 Chinese real estate bubble is popping. And then six months 0:04:17.320 --> 0:04:20.080 later it's like apartment prices hit new all time highs 0:04:20.120 --> 0:04:22.920 and that goes away. Yeah. I mean, I would say 0:04:22.920 --> 0:04:25.159 in recent years you've had some bigger ones. So you 0:04:25.240 --> 0:04:29.000 had Bao Schang Bank, which actually um failed, which was 0:04:29.080 --> 0:04:31.599 very unusual. And now it's really interesting is you're starting 0:04:31.600 --> 0:04:34.880 to get some losses on wealth management products that a 0:04:34.920 --> 0:04:38.000 lot of banks sold to retail investors. That's another thing 0:04:38.000 --> 0:04:40.120 that lots of people thought was going to tip over 0:04:40.240 --> 0:04:43.520 the financial system into some sort of crisis because people 0:04:43.520 --> 0:04:46.239 weren't going to buy the products anymore and they would 0:04:46.279 --> 0:04:50.359 pull funding for the banks essentially, So yeah, you have 0:04:50.440 --> 0:04:54.240 a lot of things that could go wrong, but the 0:04:54.400 --> 0:05:00.840 consequences never seem as dire as people originally predicted, exactly right. 0:05:00.880 --> 0:05:03.960 So anyway, I think that you know, raises an interesting 0:05:04.040 --> 0:05:07.280 question of well, why is this, Why does this, Why 0:05:07.520 --> 0:05:12.080 does the doomsday bubble crash collapse scenario that so many 0:05:12.080 --> 0:05:15.400 people just assume is inevitable? Why has it not happened? 0:05:15.760 --> 0:05:18.440 Is it going to happen? We're gonna be talking about 0:05:18.440 --> 0:05:21.400 that today with our own colleague, a special episode with 0:05:21.440 --> 0:05:24.640 one of our Bloomberg colleagues. They were going to be 0:05:24.680 --> 0:05:27.600 speaking to Tom Orlick. He is the chief economist here 0:05:27.600 --> 0:05:30.479 at Bloomberg, and he has a new book out on 0:05:30.600 --> 0:05:34.680 exactly this topic called China The Bubble That Never Popps. 0:05:34.720 --> 0:05:38.039 So Tom, thank you very much for joining us. Thanks Joe, 0:05:38.160 --> 0:05:42.960 and I especially enjoyed your manly attempts to frame the 0:05:43.000 --> 0:05:46.679 subject without accidentally using the title of my book before 0:05:46.720 --> 0:05:51.520 you introduced it right, kind of guided it right there 0:05:51.560 --> 0:05:54.240 without quite using it. But it really has been a thing, 0:05:54.279 --> 0:05:57.800 and even before I was aware that you had this 0:05:57.839 --> 0:06:01.000 book in the work, so that you're coming out, congratulations, 0:06:01.040 --> 0:06:03.480 By the way. This has been like a sort of 0:06:03.480 --> 0:06:06.360 like weird head scratcher, because for as long as I've 0:06:06.400 --> 0:06:09.960 been following this stuff, it just seemed inevitable that China 0:06:10.040 --> 0:06:12.599 must be the most obvious bubble ever, and then it 0:06:12.680 --> 0:06:14.520 was only a matter of time before it's crashing down. 0:06:14.600 --> 0:06:17.440 The only debate seemed to be when and not if 0:06:17.520 --> 0:06:21.520 it was going to happen. Yeah, that's completely right. So 0:06:21.520 --> 0:06:24.200 so I lived in China from two thousand and seven 0:06:24.240 --> 0:06:28.359 to two thousand and eighteen, mainly focused on improving my 0:06:28.440 --> 0:06:30.560 table tennis game, but I did a little bit of 0:06:30.600 --> 0:06:35.599 economics as well, and that was the persistent narrative right 0:06:35.760 --> 0:06:39.120 from the Great Financial Crisis and that famous four trillion 0:06:39.200 --> 0:06:43.520 nuan stimulus which Premier Wen Jiaobao launched, all the way through. 0:06:43.600 --> 0:06:46.599 Now there's been this massive rise in debt, and the 0:06:46.680 --> 0:06:49.719 question everybody has had has been, well, how long can 0:06:49.760 --> 0:06:52.240 this continue? And what's it gonna look like when it 0:06:52.279 --> 0:06:56.680 melts down? So give us a summary of the weaknesses 0:06:56.760 --> 0:06:59.680 in China's economy or the financial system that people have 0:07:00.000 --> 0:07:02.839 seen for this long. What is it that they are seeing, 0:07:03.000 --> 0:07:07.000 what is it that they're concerned about? So I break 0:07:07.040 --> 0:07:10.360 it down in three ways Tracy. So the first is 0:07:10.880 --> 0:07:13.760 the size of the debt bubble um. So if you 0:07:13.840 --> 0:07:17.200 go back to two thousand and eight, China's debt to 0:07:17.320 --> 0:07:20.680 GDP looking at the whole economy was around a hundred 0:07:20.680 --> 0:07:24.800 and if you fast forward to two thousand and sixteen, 0:07:24.880 --> 0:07:27.680 two thousand and seventeen, it's gone all the way up 0:07:27.720 --> 0:07:31.600 to two D two hundred and six. So that's an 0:07:31.640 --> 0:07:35.600 astronomical increase in debt in a really short period of time. 0:07:36.400 --> 0:07:40.880 The International Monetary Fund scanned the world. They went back 0:07:40.880 --> 0:07:44.200 in history too, I think World War two. They couldn't 0:07:44.200 --> 0:07:47.480 find another country which had taken on so much debt 0:07:47.760 --> 0:07:51.120 so quickly, but they did find a bunch of countries 0:07:51.480 --> 0:07:53.360 that have taken up that had taken on less debt 0:07:53.600 --> 0:07:56.680 and still had a financial crisis. So that's the first thing, 0:07:56.840 --> 0:07:59.080 just a huge amount of debt taken on very quickly. 0:08:00.040 --> 0:08:02.520 And then the second thing, if we look at the 0:08:02.520 --> 0:08:06.920 borrower side of the Chinese economy, who's borrowing the money, Well, 0:08:07.240 --> 0:08:13.240 it's state owned enterprises investing in excess capacity building steel 0:08:13.280 --> 0:08:16.400 mills when no one wants any more steel, cement kilns, 0:08:16.440 --> 0:08:19.320 when they wone wants any more cement. It's real estate 0:08:19.360 --> 0:08:23.920 developers building those ghost towns in the desert or those 0:08:23.960 --> 0:08:27.880 empty apartment blocks, and its local governments building the roads 0:08:27.920 --> 0:08:30.360 to nowhere. So on the borrower side, we've got a 0:08:30.400 --> 0:08:33.439 bunch of people making investments in things which have got 0:08:33.440 --> 0:08:35.400 low returns, so how are they're going to pay the 0:08:35.440 --> 0:08:38.960 money back? And then on the lender side, you've got 0:08:39.000 --> 0:08:42.880 state owned banks. State owned banks operating more on policy 0:08:42.920 --> 0:08:48.480 directives than commercial incentives, they're probably making some bad lending decisions, 0:08:48.640 --> 0:08:52.520 and you have the explosive growth of a shadow banking sector. 0:08:53.000 --> 0:08:57.959 Shadow banks don't have the capital to absorb losses, are 0:08:58.040 --> 0:09:01.440 lending to really low quality borrow is the risks they're 0:09:01.440 --> 0:09:04.560 going to be high. So this I have a million 0:09:04.679 --> 0:09:08.120 questions already just based on that, but I'll start with one. 0:09:08.920 --> 0:09:11.120 And you know, one of the things that's really been 0:09:11.760 --> 0:09:15.640 popular conversation in the last couple of years, and partly 0:09:15.640 --> 0:09:18.920 popularized by their eyes of say modern monetary theory, is 0:09:18.960 --> 0:09:23.760 that there is a distinct difference between private sector debt 0:09:23.800 --> 0:09:26.440 and public sector debt, and that public sector debt just 0:09:26.480 --> 0:09:28.920 doesn't have shouldn't be thought of with the same kind 0:09:28.920 --> 0:09:32.320 of credit risk. And I'm curious whether to some extent, 0:09:32.880 --> 0:09:36.640 we can start getting our heads around the Chinese debt 0:09:36.679 --> 0:09:40.320 bubble by the fact that you know, you mentioned state 0:09:40.360 --> 0:09:45.319 owned enterprise, state banks, local governments, which presumably are implicitly 0:09:45.360 --> 0:09:48.640 at some level backed by the federal government. The sort 0:09:48.679 --> 0:09:53.840 of difficulty that outside analysts have in distinguishing what's truly 0:09:53.880 --> 0:09:56.800 private sector credit versus public sector credit, and how much 0:09:56.840 --> 0:10:02.280 does that lay to the misconceptions about the and sustainabuilding. Yes, 0:10:02.320 --> 0:10:05.079 so that's a really important point, Joe. And one thing 0:10:05.160 --> 0:10:09.360 which really distinguishes China from the rest of the world, 0:10:09.920 --> 0:10:13.080 or at least the liberal capitalist rest of the world, 0:10:13.120 --> 0:10:17.040 the US, Europe and so on, is state participation in 0:10:17.080 --> 0:10:20.600 the economy and in many sense, in many instances just 0:10:20.679 --> 0:10:24.560 state ownership of the key players. So let's say we 0:10:24.679 --> 0:10:29.200 have a bad loan in the US system, Well, how 0:10:29.280 --> 0:10:32.880 is that going to be resolved? Well, maybe there's some 0:10:32.960 --> 0:10:36.040 initial negotiations between the borrow and the bank, and then 0:10:36.080 --> 0:10:38.840 maybe there's some legal recourse for the bank if the 0:10:38.840 --> 0:10:42.119 borrower can't repay it, they try and reclaim their collateral. 0:10:42.800 --> 0:10:46.120 How does that look in the Chinese context, Well, probably 0:10:46.559 --> 0:10:49.640 the local government owns the bank, and they own the 0:10:49.720 --> 0:10:53.600 corporate and they have some tax revenue or other sources 0:10:53.600 --> 0:10:56.280 of income they can put into play. And so that 0:10:56.559 --> 0:11:00.760 entire conversation, that entire negotiation is taking place within the 0:11:00.800 --> 0:11:03.800 state family. And as long as China continues to grow, 0:11:04.160 --> 0:11:07.720 and remember China continues to clock not in this COVID 0:11:07.800 --> 0:11:10.520 nineteen year, of course, but in general China continues to 0:11:10.520 --> 0:11:14.080 grow around five six, then the government just has a 0:11:14.120 --> 0:11:17.880 lot of resources that they can continue to shuffle around 0:11:17.880 --> 0:11:21.240 the system, and that allows them to resolve a lot 0:11:21.280 --> 0:11:25.200 of problems behind closed doors without a blow up taking place. 0:11:26.200 --> 0:11:29.319 Just on that note of sort of shuffling things around 0:11:29.360 --> 0:11:34.040 the system and also having this closed circuit of state 0:11:34.080 --> 0:11:37.720 owned enterprises and banks that all sort of have relationships 0:11:37.800 --> 0:11:40.680 with each other. How much does the fact that we're 0:11:40.760 --> 0:11:46.360 essentially talking about a closed economy factor into China's resilience here, 0:11:46.400 --> 0:11:49.480 because of course, you know, there has been some degree 0:11:49.480 --> 0:11:52.840 of opening up, but you still have hefty capital control. 0:11:52.960 --> 0:11:57.720 So how much does that actually insulate China from problems? Yeah, 0:11:57.760 --> 0:12:00.280 that's a that's a really important point, Tracy. You often 0:12:00.280 --> 0:12:03.280 hear people saying that that China learned the lesson of 0:12:03.320 --> 0:12:06.240 the Asian financial crisis, right, they learned the lesson of 0:12:06.280 --> 0:12:09.360 the Asian financial crisis, and that's why they've been stable. 0:12:09.679 --> 0:12:12.240 What was the lesson of the Asian financial crisis that 0:12:12.320 --> 0:12:16.120 they learned? Essentially, it was don't let Wall Street in, 0:12:16.400 --> 0:12:19.840 don't let foreign capital in. In China, they actually have 0:12:20.000 --> 0:12:24.119 a have a phrase for sort of foreign speculative investors. 0:12:24.160 --> 0:12:26.800 They call them. I'm probably gonna get this wrong, but 0:12:26.880 --> 0:12:30.400 it's like that inn wrong, are you, which means big 0:12:30.440 --> 0:12:34.719 financial crocodiles. So the big financial crocodiles came, and they 0:12:34.720 --> 0:12:39.560 came and gobbled up soul, they gobbled up career, they 0:12:39.800 --> 0:12:43.600 destroyed much of the Asian great story. And China saw 0:12:43.640 --> 0:12:46.320 that and said, you know what, We're going to finance 0:12:46.480 --> 0:12:50.719 our own development. We don't need these foreign funds coming in, 0:12:51.080 --> 0:12:53.360 which are great when they're coming in and everyone's really happy, 0:12:53.679 --> 0:12:56.680 but when they leave, the system crashes down. And so 0:12:56.800 --> 0:13:01.000 because China's growth story has really been domestically finance, that 0:13:01.120 --> 0:13:04.480 gives China an important basis for stability that you just 0:13:04.480 --> 0:13:07.400 don't see in other emerging markets. This is like a 0:13:07.480 --> 0:13:12.679 really key point, just this idea of local denomination of debt. Basically, 0:13:12.720 --> 0:13:15.880 I mean, as long as debt is in a UM, 0:13:15.960 --> 0:13:18.240 it's an a currency that you can print that makes 0:13:18.240 --> 0:13:22.600 it more sustainable. Because of Chinese incredible growth, it hasn't 0:13:22.679 --> 0:13:28.640 needed to use foreign money to finance itself. Joe, I 0:13:28.679 --> 0:13:31.640 knew you'd find a way to work modern monetary theory 0:13:31.679 --> 0:13:35.600 into this conversation. I knew it, you know, just trying, 0:13:35.720 --> 0:13:37.760 just trying to see if, like you know that we're 0:13:37.760 --> 0:13:41.440 all speaking the same we're all speaking the same language. Yeah, 0:13:41.480 --> 0:13:44.320 And actually I'm I'm not as familiar with the with 0:13:44.440 --> 0:13:47.840 the precepts of m m T as as Joe as 0:13:47.920 --> 0:13:50.360 Joe is. But from what I from what little I 0:13:50.400 --> 0:13:54.600 do understand understand about it, I think China has actually 0:13:55.000 --> 0:13:59.920 been pursuing a kind of quasi m MT type polar 0:14:00.080 --> 0:14:04.040 see for the last twenty years without cooling an MMT. 0:14:17.000 --> 0:14:19.600 So there's there's kind of you know, I'm thinking back 0:14:19.640 --> 0:14:22.720 to like the over the last decade, and I feel 0:14:22.720 --> 0:14:26.200 like the China debt bubble story is actually sort of 0:14:26.240 --> 0:14:29.960 two prongeduniority alluded to both of them. One was on 0:14:30.040 --> 0:14:32.600 the pure financing side, but the other one was just 0:14:32.720 --> 0:14:36.880 about this sort of misallocation of capital. And it doesn't 0:14:36.920 --> 0:14:40.040 matter really what currency investments are made in. If they're 0:14:40.040 --> 0:14:42.880 bad investments, they're bad investments. And I remember, like all 0:14:42.920 --> 0:14:46.080 those videos that used to be on YouTube that I forget. 0:14:46.080 --> 0:14:48.200 The hedge fund manager used to go to those cities 0:14:48.200 --> 0:14:50.600 out in the middle of nowhere and nobody was in 0:14:50.640 --> 0:14:53.600 the in the cities. Did those ever get filled up? 0:14:53.640 --> 0:14:55.840 Like what happened to those ghost cities we were talking about, 0:14:55.840 --> 0:14:59.200 like eleven? Did people eventually move into those apartments? Oh, 0:14:59.280 --> 0:15:01.600 Hugh Hendry, that was the That was the fund manager 0:15:02.040 --> 0:15:04.480 that went made all those YouTube videos showing all these 0:15:04.600 --> 0:15:07.360 like empty series. I remember the name. I remember the name. 0:15:07.480 --> 0:15:09.680 It's a shame there were no drones in those days. 0:15:09.720 --> 0:15:11.240 He could have saved a lot of himself a lot 0:15:11.280 --> 0:15:14.000 of time. So that's a really interesting story, and and 0:15:14.040 --> 0:15:16.320 it speaks to another one of the themes in my book, 0:15:16.320 --> 0:15:21.600 which is had China's policymakers have policy instruments available to 0:15:21.680 --> 0:15:24.880 them which enabled them to move the dial on the 0:15:24.920 --> 0:15:28.840 macro economy in ways which other other countries just wouldn't 0:15:28.840 --> 0:15:31.080 be able to do. So let me tell you a 0:15:31.080 --> 0:15:35.600 story about a trip I made to Guayyang, the capital 0:15:35.640 --> 0:15:40.080 of Guajo Province, back in two thousand and seventeen. And 0:15:40.200 --> 0:15:44.040 Guayang had a serious ghost time problem. They've built a 0:15:44.080 --> 0:15:47.480 bunch of shiny new tower blocks, but no one wanted 0:15:47.520 --> 0:15:49.840 to live in them. Um, so what did the local 0:15:49.880 --> 0:15:53.280 government do. They got out the bulldozers and they went 0:15:53.320 --> 0:15:57.080 and knocked over everyone's house. And then they said, okay, sorry, 0:15:57.080 --> 0:15:59.200 we're not saying of your house. And by the way, 0:15:59.240 --> 0:16:00.760 we're going to have the l and your house was 0:16:00.840 --> 0:16:03.600 on but don't worry. Here's some money. Go and move 0:16:03.640 --> 0:16:06.440 into the shining new apartment block. That's one way to 0:16:06.480 --> 0:16:09.160 do it. The real estate developers who built the shining 0:16:09.200 --> 0:16:11.840 new apartment blocks were happy because someone had come and 0:16:11.880 --> 0:16:15.840 brought them. The local government now had some land. The 0:16:15.880 --> 0:16:18.800 real estate developers, who and I flushed with cash, brought 0:16:18.800 --> 0:16:21.840 the land off the local government. So the financial circle 0:16:21.960 --> 0:16:24.880 was complete and the real estate, the empty real estate 0:16:24.920 --> 0:16:27.000 have been used up. And that wasn't just a gay 0:16:27.080 --> 0:16:30.360 Yang story. That was a national story that happened to 0:16:30.920 --> 0:16:36.360 millions of people every year for the last decade in China, 0:16:36.600 --> 0:16:39.400 there was a national program that the government sort of 0:16:39.440 --> 0:16:43.840 euphemistically called its slum clearance. Millions of people every year 0:16:43.920 --> 0:16:46.640 for the best part of a decade getting their old 0:16:46.680 --> 0:16:49.280 home knocked ober and getting some money to move into 0:16:49.320 --> 0:16:51.520 a new home. And when you can do that kind 0:16:51.560 --> 0:16:54.720 of thing, which China can and I don't think any 0:16:54.720 --> 0:16:58.680 other country in the world can, then problems like massive 0:16:59.000 --> 0:17:02.400 real estate o stay suddenly become a little bit easier 0:17:02.440 --> 0:17:05.840 to deal with. Can we talk about the downsides of 0:17:05.880 --> 0:17:10.760 having this sort of closed circular command economy system, because 0:17:11.480 --> 0:17:14.440 you know, you're we're talking about the misallocation of capital. 0:17:14.480 --> 0:17:16.080 And one thing that you do tend to see in 0:17:16.080 --> 0:17:18.600 the Chinese market a lot is there is a lot 0:17:18.640 --> 0:17:21.800 of excess cash and it sort of just rolls into 0:17:21.880 --> 0:17:25.120 one thing after another. So you know, it'll go into property, 0:17:25.160 --> 0:17:26.960 and then it will go into stocks, and then it 0:17:27.000 --> 0:17:31.159 will go into something else, and people do lose money 0:17:31.200 --> 0:17:33.679 on those investments, and every once in a while you 0:17:33.720 --> 0:17:38.080 do hear stories of outrage at someone who's from someone 0:17:38.119 --> 0:17:41.359 who's lost their entire savings on you know, appear to 0:17:41.520 --> 0:17:44.840 peer loan scheme or something like that. What are the 0:17:44.960 --> 0:17:50.960 downsides of having that kind of circularity in a closed system? 0:17:51.040 --> 0:17:53.560 So I think the first thing to say is that 0:17:53.760 --> 0:17:57.439 there are some very serious social damage sites. Right just 0:17:57.520 --> 0:18:01.280 think about that slum clearance example. Did those millions of 0:18:01.320 --> 0:18:03.840 people want to have their homes builders so that the 0:18:03.880 --> 0:18:06.960 government could solved the problem of real estate over capacity. 0:18:07.280 --> 0:18:10.520 I think there's a reason democratic countries wouldn't be able 0:18:10.560 --> 0:18:13.600 to do that, basically because people don't like it. So 0:18:13.640 --> 0:18:16.879 there's some very serious social downsides to it. There's also 0:18:17.320 --> 0:18:20.960 economic downsides as well. If you have very large scale 0:18:21.080 --> 0:18:25.840 misallocation of capital, then you have very low return on assets, 0:18:26.240 --> 0:18:31.439 very low productivity growth. And ultimately, when China has used 0:18:31.560 --> 0:18:34.760 up all the space, it has to catch up with 0:18:34.840 --> 0:18:37.600 the US, to catch up with Germany, to catch up 0:18:37.600 --> 0:18:40.679 with Japan in terms of its use of modern technology, 0:18:40.720 --> 0:18:44.680 it's use of modern management techniques. Then that's going to 0:18:44.800 --> 0:18:48.159 come back to bite really hard, and China's great is 0:18:48.160 --> 0:18:50.040 going to be very weak, and we are going to 0:18:50.080 --> 0:18:52.760 see a day of reckoning in the economy and in 0:18:52.800 --> 0:18:57.000 the financial system. That day just as much further away 0:18:57.400 --> 0:19:01.439 than most people realize. I'm member. There's that one street 0:19:01.520 --> 0:19:04.359 in Beijing where a lot of the really big state 0:19:04.359 --> 0:19:09.000 owned enterprises have their sort of headquarters offices, and a 0:19:09.040 --> 0:19:11.119 friend of mine used to refer to it as the 0:19:11.160 --> 0:19:15.480 street where capital goes to die. We need, we need 0:19:15.520 --> 0:19:19.560 photos of that the street work to die. But Tom, 0:19:19.560 --> 0:19:22.160 I want to press you on that last point, because 0:19:22.200 --> 0:19:25.879 you referred to a day of reckoning. Will it be 0:19:25.920 --> 0:19:28.320 a day? I mean? And I mean that kind of 0:19:28.359 --> 0:19:31.360 literally in the sense that when we think about, say, 0:19:31.520 --> 0:19:35.480 the US housing bubble haven't collapsed. Okay, it took place 0:19:35.640 --> 0:19:38.479 over a period of time, but you know there's like 0:19:38.680 --> 0:19:41.680 a few days that really stand out. The Lehman Brothers 0:19:41.800 --> 0:19:45.720 collapsed and so forth. In the China context, Is there 0:19:45.720 --> 0:19:47.760 gonna be a day when it collapses? Or will it 0:19:47.840 --> 0:19:52.680 just be that at some point you expect we'll look 0:19:52.760 --> 0:19:57.800 back and say, years and years of misallocation and other 0:19:58.480 --> 0:20:03.080 bad decisions lead to a degradation of growth and productivity 0:20:03.280 --> 0:20:06.000 that clearly set it back. Is it gonna be a 0:20:06.000 --> 0:20:10.640 crash or just sort of like a bad period? Yeah, 0:20:10.680 --> 0:20:12.719 I think it's a It's kind of the is it 0:20:13.040 --> 0:20:17.159 Lehman or is it Tokyo? Right, being the kind of 0:20:16.720 --> 0:20:20.880 the moment where everything went wrong, and and Tokyo being 0:20:20.920 --> 0:20:24.000 the kind of the example of an economy which just 0:20:24.240 --> 0:20:27.960 kind of lost its moxi moxire, is it mojo? But 0:20:28.200 --> 0:20:33.199 maybe both over an extended period of time. And I 0:20:33.240 --> 0:20:36.760 think the point I come back to is that what 0:20:36.880 --> 0:20:42.000 China's government needs in order to successfully backstop the system 0:20:42.240 --> 0:20:46.440 is continued growth in its resources. Right, if the government 0:20:46.480 --> 0:20:50.800 has continued growth in profits from state firms, continued growth 0:20:50.800 --> 0:20:54.480 in profits from state banks, continued brace in tax revenue, 0:20:54.600 --> 0:20:57.760 continued land sales revenue, then it's got money that it 0:20:57.840 --> 0:21:01.399 can carry on shuffling around the system to make everybody 0:21:01.440 --> 0:21:05.159 whole right, to paper over over over the cracks, and 0:21:05.480 --> 0:21:08.119 to have those things. What it needs is growth. For me, 0:21:08.280 --> 0:21:10.919 the point when the bubble pops, whether it is the 0:21:11.000 --> 0:21:13.600 kind of the beginning of a long stagnation or a 0:21:13.680 --> 0:21:16.439 kind of a crisis, point is the moment when the 0:21:16.480 --> 0:21:19.160 growth stops. So the question is when's that going to be? 0:21:19.440 --> 0:21:22.080 And one powerful way of thinking about that is, well, 0:21:22.119 --> 0:21:26.080 where is China relative to the technology frontier? Where is 0:21:26.160 --> 0:21:29.480 China relative to the level of productivity that we see 0:21:29.640 --> 0:21:32.800 in the United States and Japan and elsewhere. And the 0:21:32.840 --> 0:21:35.960 answer is actually still a really long way. G d 0:21:36.080 --> 0:21:38.520 P per capital in China is a third of the 0:21:38.600 --> 0:21:42.400 level that it is in the United States. Japan fell over, 0:21:43.920 --> 0:21:49.080 Japan's GDP per capital was already at US levels. Based 0:21:49.119 --> 0:21:51.920 on that way of thinking about things, China still has 0:21:52.200 --> 0:21:55.920 quite a long way to run, So I'd be curious 0:21:55.920 --> 0:21:59.960 to get your take on what you think China see 0:22:00.280 --> 0:22:03.240 as its role in the global financial system, Like what 0:22:03.440 --> 0:22:08.080 is China actually trying to achieve with some of its 0:22:08.280 --> 0:22:12.000 capital markets opening up. You mentioned this idea that it 0:22:12.080 --> 0:22:14.640 wanted to keep a lot of the Western speculators out 0:22:15.359 --> 0:22:19.680 earlier um And is there a moment at which China's 0:22:19.800 --> 0:22:26.000 global financial ambitions may be become constricted by that closed 0:22:26.359 --> 0:22:31.360 economy that we've been describing. There's a real cost to autarchy, Tracy, 0:22:31.520 --> 0:22:33.960 some of those points that you were mentioning so much 0:22:34.040 --> 0:22:38.040 money slashing around in the system, chasing returns on P 0:22:38.200 --> 0:22:42.480 to P schemes today and equity tomorrow and real estate 0:22:43.240 --> 0:22:47.199 on Thursday, and so China's policymakers recognized that there are 0:22:47.200 --> 0:22:49.560 some benefits in terms of efficiency to having a more 0:22:49.600 --> 0:22:53.240 open system, to allowing money to go on to come 0:22:53.280 --> 0:22:55.600 in and out of the country. At the same time, 0:22:55.960 --> 0:22:58.639 there's still a real fear about what might happen if 0:22:58.640 --> 0:23:01.240 they open up too quickly. I spent to one senior 0:23:01.240 --> 0:23:05.399 executive in a Chinese who said, opening up all of 0:23:05.400 --> 0:23:08.199 the weaknesses we have in our banking system would be 0:23:08.280 --> 0:23:11.680 like it would be like seeking death. So they want 0:23:11.680 --> 0:23:14.520 the efficiency gains, but they want to do it gradually 0:23:14.680 --> 0:23:32.000 so they can try and minimize the costs. M I 0:23:32.040 --> 0:23:34.720 want to ask you a question that sort of um 0:23:34.760 --> 0:23:37.280 not necessarily the focus of your book, which had obviously 0:23:37.520 --> 0:23:38.960 been in the works for a while, but it's sort 0:23:38.960 --> 0:23:43.560 of of acute important importance. You mentioned post the last crisis, 0:23:43.640 --> 0:23:47.320 the four trillion dollar stimulus got a lot of attention. 0:23:47.840 --> 0:23:51.960 There was this big sort of commodities boom associated with it, 0:23:52.040 --> 0:23:54.880 sort of between two thousand nine two thousand and eleven. 0:23:55.440 --> 0:23:59.240 It was a huge amount of enthusiasm towards emerging markets, 0:23:59.280 --> 0:24:02.440 which they faded over the subsequent decade, but at least 0:24:02.440 --> 0:24:05.120