Over the past few years, Dubai and China have captured media’s imagination as glorious examples of global growth, the birth of a new era in which these regions and others will continue to grow forever creating a virtuous demand cycle for global prosperity. CNBC Viewers, like us, can recall episode after episode in which infatuated anchors like Erin Burnett, Maria Bartiromo and Melissa Lee sang the praises of the growth in Dubai and China.
It now seems that the dreams of “growth unbound” are beginning to resemble the fate of Prometheus.
Dubai, the glorious city in the Persian Gulf, with its man-made islands and beautiful hotels rising into the sky, seemed like El Dorado. Chinese growth, one could understand. After all, China has 1.3 billion people and a huge landmass. But, Dubai is just a tiny island. For little Dubai to soar to such heights of global growth seemed miraculous, almost Promethian.
Unfortunately, the wheels may be coming off Dubai. At least that seems to be the “considered view” of Una Galani of the New York Times – http://www.breakingviews.com/2008/10/02/dubai.aspx. (Another article in the New York Times, “Boomtown of Dubai Feels Effects of Global Crisis” also makes similar points.) Ms. Galani quotes some disturbing facts:
- Last week, Dubai received a $15 Billion bailout from its oil rich cousin, Abu Dhabi,
- Dubai’s credit default swaps have doubled to 300bps, almost 3 times that of Abu Dhabi,
- Construction of the world’s largest airport (in Dubai, of course) is rumored to be behind schedule,
- Large Island projects are being postponed,
- Glossy International projects are being rethought.
This should not be as a surprise to any balanced reader. The era of unbounded global growth was based on the assumption of unlimited credit. During the rise of the Credit Bubble in America and Europe, global growth soared and now with the bust of the credit bubble, dreams are turning into nightmares and booms into bust.
But fortunately for the world and Dubai, a bust in Dubai may not be a big deal. The world does not have a great deal invested in Dubai and Dubai is blessed with a protective, conservative and oil-rich cousin in Abu Dhabi. The foreigners in Dubai might lose their proverbial shirt but Dubai itself will make it.
China is a totally different story. It has been our belief and warning to investors that the entire Chinese miracle was based on unprecedented amounts of money being transmitted to China every month from America and Europe. In 2007, this amount had risen to $40 billion per month. This influx of money led to usual consequences. China is now suffering from enormous overcapacity in every sector. Housing is in a state of utter glut and so is the manufacturing sector. There are too many factories trying to produce the same products in every region. Property values on China eastern gold coast have come down by 20% over the past year.
Now with America and Europe in a serious slowdown, the bloom is coming off the Chinese rose. A faded bloom the world could take but a withered rose is beyond what is factored in global markets.
In our opinion, China is facing a sustained period of overcapacity and slower growth. Chinese society had ridden a glorious wave of rising expectations met by increase in wealth leading to greater expectations. How will Chinese society cope with a serious slowdown accompanied by decrease of wealth? The China Brief produced by the Jamestown Foundation is not very optimistic. Their article, “The Hu-Wen Leadership Battles “Warlords” over Economic Policies and Bureaucratic Reform” is a must read in our opinion – www.jamestown.org/china_brief/article.php?articleid=2374431
The growth in China, fed by American & European money (mainly trade deficit supported by direct investment), in turn fed other areas of the world, especially Latin America. Brazil, for example, exports more to China than to the US. The miracle in Latin America was mainly due to rise in commodities which soared due to ever-increasing Chinese demand.
A slowdown in China means a recession in global growth and a deep sustained slowdown in China would send waves of DEFLATION across the world.
Put in this context, one can understand the horrific declines in Emerging Market Stocks, the deterioration of Latin American & Asian currencies and the destruction of commodity stocks. The fear of deflation is in the air and when investors fear deflation, they run to government bonds.
We see leaders, politicians and commentators around the World talking derisively about the USA and predicting the end of US financial leadership. It seems ironic to us and it must be utterly galling to them that, as they criticize the USA, the US Dollar continues to rise , money continues to flow into the US and Treasury Yields continue to fall.
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