The Difficulty of Rebalancing China’s Economy

A wanted to post a few follow up thoughts to my FT Alphaville piece on the difficulty of rebalancing the Chinese economy.

1. As was noted, this is an ongoing piece of work trying to better understand what is going on in the Chinese economy. I’ve already gotten a couple questions about things to consider and let me assure you, I will try and present more data.  If the facts and data change, then my opinion will change.
2. From the Goldman Sachs report on New and Old China I highlighted, they recognize the same problem I note about the difficulty rebalancing given the relative difference in size writing “…the absolute size of ‘New’ China is still small”: it accounts for 21 percent of total China market cap and only 8 percent of 1H15 profits. We highlight a list of fast growing and GS Buy-rated ‘New’ China names in Exhibit 40.” As I have said, there are companies or sectors that are growing rapidly, however, they are relatively small sub-sectors and not enough to rebalance the Chinese economy or drive 7 percent GDP growth.
3. One of the most telling indicators to me of corporate health anywhere is tax revenue growth. The tax man is going to get their share.  According to my data, corporate tax payments declined 4 percent H1 2015 from H1 2014.  Given the widely noted difference around the world between what companies report to investors and what they report to the tax man, tax payments are in many ways a better gauge.
4. Another concerning aspect is the rise in accounts payable. In the past two years, as operating revenue has been just above flat at an annualized growth rate of 1.4 percent, accounts payable have been increased at 12.6 percent per year.  That indicates to me that companies are slow walking their checks to their suppliers.
5. I am really struggling to see how 7 percent GDP growth is the highest probability outcome here.
6. GDP growth is largely irrelevant if the cash flows fail to support the ongoing operations of economic activity and specifically debt repayment.
7. There is increasing debt stress on Chinese firms. Negative operating revenue growth and rapidly expanding  debt levels do not portend positive things.
8. Rebalancing the Chinese economy is going to be very difficult without significant stress at some point.
9. Do read the FT Alphaville piece on projected RMB outflows.  The RMB and credit are the two major stresses to watch in my book.