Never discouraged in their quest for the mythical 7 percent, perma-pandas now argue that service sector growth is driving total GDP growth in China.  There are numerous problems with this argument from the factual to the theoretical.  First, the perma-panda argument is relying exclusively on top line official data, which is very questionable — especially the supposed shift in GDP structure in recent history.  As noted recently here, a wide variety of service sector industries were averaging revenue growth in the low to mid-single digits that began at the latest in 2014, despite official data showing a shift to the service economy.   Oddly, even the perma-panda data fails to indicate an increased share of services in the GDP basket despite their argument for its importance.

Second, if we exclude top line official National Bureau of Statistics data, there is simply no evidence of rapid service or consumption growth in the Chinese economy.  I want to be clear on this point that service growth does not appear as weak as product output, however, most evidence indicates it is only growing in the low to mid-single digits.  I have already addressed certain areas like transportation and telecoms which, using year-over-year year-to-date growth, are experiencing weak growth.  Telecom services appear to be suffering small declines with provider revenue mirroring this change.  Transportation and freight appear to be essentially flat, though due to methodological changes in data counting, which have never been explained publicly, passenger numbers between 2013 and 2014 dropped significantly.  Consequently, while we cannot extrapolate further than one year, the year-over-year and year-to-date passenger numbers are flat and are comparable.

Most recently, I have downloaded data  related to medical and health services.  If the supposed boom in services is happening, it certainly isn’t happening in Chinese healthcare.  Visits to medical institutions, hospitals, and primary medical facilities are growing at 2.98 percent, 5.40 percent, and 1.56 percent respectively.  If Chinese consumers are going to consume a higher level of health services or consume health products, it is an absolute pre-requisite that their visits to health institutions increase.  Furthermore, while I did not test for this econometrically, given the continued aging of the Chinese population, a small increase in visits to health care providers is expected.

Medicine output, both western and Chinese, tells a similar story, with a caveat.  Traditional Chinese medicine’s year-to-date total monthly output is down 15.1 percent, though this decline is due largely to slowing production in July and August.  Through June traditional Chinese medicine output was essentially flat registering a minuscule 0.59 percent increase.  While the year to date number for raw chemical medicine output at the end of August was a distinctly more robust 17.5 percent, this number comes with a significant caveat.  For some reason, this number goes through large intra-year swings.  If I reported the number as of June, it would come in at a much more moderate 3.8 percent.  Looking back over the past few years in this category, it is prone to large intra-year swings that will move between significant YTD increases and then back to small declines.  It is likely that the 17.5 percent growth will not continue for the rest of the year.

If health services consumption is going to rise we should see higher numbers of hospitals, medical institutions, and primary medical facilities.  It defies logic that health care service utilization would rise but visits and basic medicine use would grow slowly or fall.  Correlated with that, we would expect to see increased primary and Chinese medicine consumption.  While neither visits nor basic medicine growth is negative, neither are they robust, even in the mid to high single digit range, with the noted caveat about the August spike in raw chemical medicine.  Low to mid single digit growth in specific health services that would be a comprehensive indicator and consumption that would be strongly correlated with higher health service usage, simple do not indicate the growth necessary to rebalance the economy.

Third, perma-pandas are confronting the laws of mathematics in attempting to defend the increasingly elusive 7 percent.  Let’s take a slightly stylized version of the Chinese economy.  Assume they have a 50/50 split between production and services,  which isn’t exact but close enough for our purposes.  Now let’s assume that production is growing at 2 percent.  It is hard to find any output growing that fast, much less all output, but let’s assume that for the moment.  For the remaining 50 percent of the economy to push total GDP growth to 7 percent, that would require the service sector in aggregate to grow at, in our somewhat simplified version of the Chinese economy, a total of 12 percent.  So far, if we exclude top line NBSC data, I haven’t been able to find any service sector growing at double digits much less the entire service sector using key metrics.  I am not the brightest guy around but I struggle to see how health service provision and consumption can increase in double digits when visits and medicines are growing so much slower.  I fail to see how telecom services can positively contribute to service sector growth when virtually all its components are negative.  Service and consumption need to grow significantly faster than 7 percent to push the entire economy up to 7 percent given the acknowledged slowdown in output and it simply is not merely a flesh wound.

I want to note on specific caveat about the data I am producing as I go through various sectors of the Chinese economy focusing on consumption and services.  The metrics I am using, such as hospital room and primary health care institution visits, are imperfect metrics in the sense that are not perfect substitutes for their respective components of GDP in health care service provision.  However, they absolutely should be closely correlated with the respective components of GDP.  Telecom service provider revenue is again an imperfect measure of telecom services GDP, but when the official statistics claim 23 percent growth and service providers are declaring flat revenue, this raises serious questions.

I will continue to search for data in various service industries however, having covered transportation, hotel and catering, telecommunications, and now health care services, the granular industry level data simply does not support the story of rapid service sector growth in China. Despite repeating it over and over, there is simply no underlying evidence that service sector growth is rapid enough to make up the difference in flat production output to turn China into a 7 percent GDP growth country.

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Photo: Bloomberg 21/09/2015

Investors checking up on the global markets will find a stock market index called the ‘Shanghai Composite’ located in China. The SSE Composite Index (‘the composite’) is China’s leading index and totem pole for China’s attempted foray into the securities markets. As a reminder, Investopedia defines a financial market as “having transparent pricing, basic regulations on trading, costs and fees, and market forces determining the prices of securities that trade.”

But is the Chinese stock market really adhering to free-market principles that its name would imply?

Historically the Chinese stock market has played a limited role in China’s economy, and has generally been ignored by domestic investors, while barely being touched by foreign investors. Suddenly on August 24, the composite became ground zero for shockwaves spreading through stock markets around the world. Reams of reports blamed the composite’s ‘Black Monday’ on a set of disappointing economic data, which analysts argued would contaminate growth in overseas economies.

Yet placing the composite under the microscope reveals a DNA pattern closer to its communist planned economy lineage. When investors and commentators are tracking the composite’s every move, they are in fact watching the whirring cogs of Chinese government entities trading with each other.

The composite

The Shanghai Stock Exchange (SSE), founded on  November 26, 1990, is run by a state-owned enterprise (SOE) and regulated by the China Securities Regulatory Commission. The SSE has direct links with the Chinese Communist Party, which also appoints its chairman. At the time the SSE was established, Deng Xiaoping, Chinese leader at the time, was quoted as saying “…we should not be worried about making mistakes. We can close it and reopen it later.”

Companies wishing to list must seek approval from the State Council Securities Management Department, which currently does not allow the listing of foreign firms. Unlike developed stock markets in Europe and the US, the Chinese authorities control the listing timing and pricing. Bloomberg reported that 145 of the 147 firms that listed this year up until March all floated at a price 23 times their earnings per share. Government manipulation is designed to ensure that all the shares soared in valuation on the first day of trading.

The SSE Composite Index (ticker symbol 000001.SS) was launched on July 15 1991, and tracks the share prices and market capitalisation of all listed stocks (A shares and B shares) on the SSE, currently a total of 1,115 companies. Companies with the largest index weightings are SOEs in the energy, bank and insurance sectors.

According to a recent article by Gui Hao, the top ten listed SOEs alone account for 30 percent of total stock market value. And their ownership structures are naturally dominated by government institutions. Gui takes as an example the world’s largest bank by market capital, the Industrial & Commercial Bank of China (ICBC). The “largest shareholders are the Chinese Finance Ministry (34.88 percent) and the state investment company China Central Huijin (35.12 percent)”.

The free-market influence is weakened further as state controlled firms hold the majority of shares off market. A Wall Street Journal article published in May, based on research by Macquarie, notes “the average free float of Chinese stocks is around 40 percent, versus more than 90 percent in the U.S.”

Viewed in the wider context of the economy, these SOEs which carry the most weighting on the composite index enjoy monopoly or oligopoly positions in key industries. SOEs are given cheaper access to resources such as land and raw materials, as well as direct subsidies from the government.

An article published last year by China Economic Weekly collated listed company half-yearly reports from Wind Info, a Chinese market data provider. The data revealed 88.1 percent of Chinese listed companies, both state and private on the Shanghai and Shenzhen stock exchanges, received government subsidies. A third of the total value of government subsidies were handed to just 40 listed SOEs.

For example, Air China, the second biggest recipient of government subsidies, recorded a loss of RMB 344 million, but including an RMB 818 million subsidy, was able to report a ‘profit’ of RMB 474 million.

Fun and games

In times of peace the Chinese government maintains a strong influence on stock market price movements. But during the stock market crash over the summer, these behind the scene movements turned into very ‘public displays of affection’ for saving the stock market. China’s giant propaganda media machine, which had originally been deployed to talk up the bull run, was now publishing headlines literally declaring war on market ‘manipulators’. Elements at play, otherwise known as market forces, were disrupting the government’s underlying intended use for the stock market.Elements at play, otherwise known as market forces, were disrupting the government’s underlying intended use for the stock market: raising valuations for future SOE share sales as part of SOE reform.

In July, the government took the following actions (amongst many), to combat market forces: suspension of IPOs, banning company shareholders with stakes of more than 5 percent from selling for the next six months, and using the China Securities Finance Corporation (CSF) to purchase mainly SOE shares, selected at the discretion of the government. Followed more recently by arresting employees of stockbrokers and strong-arming SOEs and fund managers into not selling large amounts of shares, the message is, in essence, that no-one is allowed to sell.

Any pretence of a normal functioning stock market has been battered down by the government’s clumsy attempts at ‘stabilization’, forcing away trading volumes, and leaving a market where only the government is the major player. The Financial Times estimates that by the end of August the Chinese government had, through various state controlled institutions, spent over $200 billion in the preceding two months in rescuing the market. At the height of the crisis more than half of all listed companies had voluntarily suspended their stocks. Even today, nearly 500 stocks remain untradeable.

The one positive outcome from the Chinese government’s very public stock market manipulation is that it serves as a warning for investors and analysts of the contrived, even fake nature of the Chinese stock market. Next time a headline reports on the latest swings in the Chinese market, or an overseas politician visits the Shanghai Stock Exchange to exchange credibility for trade deals, ignore it, and move on.

Translations of Chinese economic analysis can be found on the chiecon website.

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There is a question I’ve seen arise in both explicit and implicit ways that I believe needs some exploration. Many have noted that capital outflows are not related to economic growth.  That is generally true but the truth is more complicated and indirectly untrue in keyways.  Let me explain.  First, Chinese investors are telling you what they think of the Chinese economy.  There is a dearth of good investment opportunities in China.  Falling credit quality, deflation in producer prices, surplus capacity in a range of sectors, coupled with an awful investment climate do not inspire confidence in even Chinese investors, despite calls for unity and national pride.  Second, capital outflows are placing downward pressure on the RMB.  That is going to require an implied tightening to maintain the RMB/USD peg, which would require secondary loosening. If a devaluation takes place, this would reduce consumption and have minimal impact on exports unless the devaluation was sizeable.  Third, an enormously under-appreciated part of the China growth story for the past decade or longer was how the money supply simply exploded whether through sterilization of trade surpluses or credit.  Chinese M2 growth lags only serial inflators like Russia, Turkey, and Argentina in the past decade despite reporting some of the lowest inflation among all major emerging and developed countries in the world.  Reducing the money supply will have an enormous impact on Chinese growth.  Fourth, capital outflows will place enormous stress on Chinese financial institutions.  Any drying up of liquidity will place significant stress on institutions with high levels of short term loans that they need to roll over.  In other words, while capital outflows generally have no direct impact on GDP growth, the reality is decidedly more nuanced and does have significant indirect impact.

What is interesting in the debate over the quality of Chinese data and attempting to ascertain the true state of the economy is to watch people hear what they want to hear and disregard the rest. Bloomberg has released a short paper on its opinion of the quality of Chinese data and economy writing that “naive suspicion of China’s growth rate based on a limited set of industry-related indicators is misplaced.”  They note that the “default” position of many market participants now is to doubt official data using electricity consumption as an indicator of Chinese GDP growth.  They go on to cite perma-panda Nicholas Lardy that consumption and services is holding up well because movie box-office revenue is up strongly this year.  So apparently, replacing electricity growth with box-office revenue is not narrow but an acceptable use of data analysis. The bigger problem with this analysis is it is willfully overlooking enormous amounts of data that has been produced about the Chinese economy.  Whether it is retail sales or output data, including consumer products and significant amount of services, Bloomberg is simply choosing to ignore quality work that has been done by a variety of people demonstrating weakness in the Chinese economy and the major discrepancies between top line official data in the granular data underneath it.

There are three final points worth noting.  First, Bloomberg is flat out wrong on one specific point of fact according to the data I downloaded from Wind.  They write that “gains in passenger volumes are robust.”  Based on the data I downloaded from Wind on passenger volumes and distances traveled, this is simply false.  Second, Bloomberg and Nicholas Lardy not only provide virtually no evidence to support their rosy scenarios, they fall prey to one of the class blunders in economics: the lipstick fallacy.  Lardy and Bloomberg cite rising movie box office sales as proof that consumption and services are strong.  However, economists have long noted the relationship between the increase in “affordable luxuries” during economic downturns.  It is frequently referred to as the lipstick effect, as consumers increase their purchases of affordable luxuries compared to bigger spending items.  Think lipstick compared to a new purse.  Third, Bloomberg and Lardy rely completely on official NBSC data to support the argument that consumption and services have risen as a percentage of GDP.  Given the enormous discrepancies we know exist between underlying data and headline in these areas in the past few years, this is not an assumption to take lightly.  To claim that critics of Chinese data are overly obsessed with electricity consumption to track the overall economy is an incredibly poor read of the work that has been done in the market.  The market and myself are looking at a wide range of data and finding that the data simply doesn’t fit the 7 percent growth story and the data discrepancies are much larger and systematic than Bloomber recognizes.  There is a reason the new market default position is skepticism.

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Prof. Huang uses two simple examples from his book to illustrate his point.  First, though economists with Chinese encouragement classify private companies based upon their legal classification, this overlooks the importance of government shareholdings.  As Chinese banks can attest to today, just being a listed company does not make you a private enterprise.  According to his calculations, if we account for these types of distinctions, as much as 80 percent of the Chinese economy is still managed by the state.  Second, many “Chinese” companies that most people have heard of such as Lenovo and Alibaba are not actually Chinese companies.  They are registered elsewhere for good reason.

There are many other examples in the book and many others I could provide about the importance of paying attention to the details of the Chinese economy.  I by no means claim to have mastered this art but I am continually asking how can we dig beneath the surface of a flashy number or statistic to make sure I am understanding and taking prudent precaution to verify a specific issue.  The problem is so frequently, when you dig beneath the surface of Chinese data, you uncover a bunch of dead bodies.

Yesterday, the National Bureau of Statistics China announced that retail sales China clocked in at a solid 10.8 percent growth.  There are however significant reasons to doubt this number.  As I have already written elsewhere, output of consumer products in China is flat or falling.  However, just because China isn’t producing consumer products doesn’t rule out the possibility that retail sales are going up.

To examine this closer, I downloaded data from the report covering the 50 and 100 largest retail enterprises in China with sales broken out by category.  Looking at the 50 largest retail enterprises in a year over year basis, except for jewelry, all other categories are negative. Looking at the 100 largest, jewelry is still the largest gainer at 8.7 percent with food registering a 4.9 percent gain.  Total retail sales among the largest 100 registered a total gain of 1.5 percent year-over-year. Most interestingly about the top 100 year over year retail sales, there is not one category that reaches the 10.8 percent claimed by the NBSC.

If we look at the year to date YOY sales of the top 50 retail enterprises, total retail sales grows by 0.9 percent.  In fact, only one category grows by more than 3 percent, jewellery which grew at only 4.2 percent.  The short version is that looking at the major retailers of China, there is no evidence to support the official statistics that consumer retail spending is a robust 10.8 percent.  While it is possible that major retailers are registering flat and declining numbers depending on specific category, while China nationally sees such robust growth of 11 percent is highly unlikely.  Furthermore, the retail sales of major retailers matches closely what we know about the flat output of consumer products in China.  It is very difficult to reconcile falling consumer output and flat major retailer sales with the official story of 11 percent growth.

There is however an even more important point that needs to be made.  Headline official data of 7 percent GDP growth and 11 percent retail sales growth are in most ways irrelevant to a firm.  Businesses rely on cash flow to pay for workers, machines, and space.  If we look at retail related cash flow for 2014, as it is not yet available for 2015, there is an enormous discrepancy between the official data of 12 percent retail sales growth and the cash flow associated with retail businesses.

Looking at the “Comprehensive Retail” financials, sales growth for 2014 was only 3.8 percent with profit growth of 4.4 percent. Food saw the largest sales growth at 5.7 percent in a year when China was touting national retail sales growth of 12 percent.  Even if we assume that GDP growth is actually 7 percent and that retail sales are proving robust at 11-12 percent, firms are not enjoying the cash flow benefits.  A high point of sectoral cash flow of 5.7 percent is not indicative of firms enjoying robust growth.  The slow cash flow growth would indicate that the retail slowdown has been going on much longer than initially believed.

There are a few points of economic analysis worth mentioning.  First, we pay close attention to GDP and retail sales because we expect them to be good proxies of economic health and activity.  However, firms pay with money not official GDP figures.  Consequently, even if we stretch credibility and accept official GDP and retail sales numbers as perfectly accurate, firms are not seeing the related cash flow. Second, it appears that the retail slowdown has been much more prolonged than people realize.  I present data here that covers revenue growth for the retail industry for all of 2014 showing sales growth of 3.8 percent.  Again, if we believe the official retail sales growth number of 12 percent, firms live on cash flows and the slow down appears to have begun no later than 2014.  Third, this data directly contradicts the entire economic rebalancing story in China.  According to the data consumption is simply not outpacing growth in the traditional drivers of Chinese growth such as fixed asset investment.  Fourth, this data comes much closer to matching most other data points we have such as consumer output, electricity, freight, and related data.  If we ignore the topline official data, none of the underlying and independent data supports a 7 percent growth story.

Despite what people may choose to believe or disregard, it is incredibly difficult to reconcile official national statistics with more granular industry data on retail sales.  Furthermore, when we also consider the consumer product output data coupled with large retailer sales data, it is difficult to accept official data.  The most worrying part is that even if official GDP and retail sales data is accurate, the cash flow required to support the debt and return numbers indicate significant stress at the firm level.

The more we pay attention to the details of the Chinese economy, the more difficult it becomes to reconcile with official data and the more worrying the picture becomes.

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There are a couple of points that need to be emphasized.  First, $94 billion is definitely a little better than expected, but at the same time nothing to rejoice about.  It is still $94 billion, which even by Chinese standards and relative reserve standards, is big money.

Second, declaring a $94 billion drop in FX reserves a good month is like saying “it’s merely a flesh wound.”  Enough of those flesh wounds can be mortal.  $94 billion is still an enormous amount of defense by the PBOC.

Third, the evidence indicates not that the market is settling back down but rather that the market is betting more and more against the RMB stabilizing.  Capital appears to be flowing out at a faster rate with Capital Economics estimating August outflows at $130 billion up from $75 billion in July.  As I have noted, this number has been regularly increasing for a while now and shows no signs of slowing down.  This is placing downward pressure on the RMB so much that China is tightening capital controls.  What is amazing is that some people cite the possibility of Beijing implementing further capital controls as evidence of their control of the situation.  Beijing implementing stronger capital controls will demonstrate nothing more than a complete loss of control of the financial situation and investor confidence. Furthermore, the offshore rate is widening its divergence with the onshore rate to about 1.5 percent.  This is not indicative of a currency that is stabilizing or a central bank that is gaining investor confidence.

Fourth, China doesn’t have years of FX reserves.  Even at the rate of $100 billion a month, using the IMF baseline, it would have nine months of FX reserve depletion.  Assuming it went further, it would have 18-24 months.  China does not have the cushion many people assume.

Fifth, due to the tightening from RMB purchases, Beijing has been recycling this liquidity into the domestic system via reverse repos and related methods to the tune of approximately $180 billion.  Do the math: let’s say $100-120 billion was taken out via FX sales but $180 billion injected.  That means Beijing is providing $60 billion net liquidity to domestic financial institutions.  Banks are much tighter on liquidity than understood.

Sixth, pretty sure I was referred to as a “doom monger” today.  I’ve always wanted a cool nickname.

The post Beijing’s FX Reserves Not as Big as People Think appeared first on The Nanfang.

One writer chalks this concern up to a bunch of “conspiracy theor(ies)”. This type of thinking reveals nothing more than a complete ignorance of the issue and overall facts.  No less than the second in command of China, Premier Li Keqiang, has stated that Chinese GDP data is unreliable and “man-made”.  To put this in perspective, the current Premier of China, second in command for the entire country, leading economic policy formulation, a Phd in economics, having spent essentially all his career inside public administration in various posts throughout China advises you not to trust GDP figures or the economics professor in the United States who has never lived in China and has no specific expertise in China.  It stands near the pinnacle of hubris for a professor to correct someone with this depth of knowledge.  Astoundingly, other measures of economic activity such as electricity production and freight traffic are criticized as proxy measures.  While both are undoubtedly imperfect measures, they do provide evidence of broad economic activity.  Li Keqiang cited them as measures he uses to judge economic activity as they are harder to fake because (wait for it), he believes GDP figures are so artificially manipulated.  As a final note, I fail to grasp how concerns over Chinese GDP qualify as a conspiracy given that we are being told this is a problem.

One writer makes the straw man argument that China has grown substantially over the years, so Chinese GDP data has to be “broadly accurate”. There are numerous problems with this specific argument.  No one who points to serious technical issues in GDP accounting has ever said China has not grown rapidly over a sustained period.  It is pure sophistry to create the illusion of disagreement hoping to overlook the real point for which they provide no defense.  China has grown rapidly over a sustained period, but that say absolutely nothing about the veracity of GDP data they are showing the world.  Furthermore, “broadly accurate” so vague for something that should be focused on detail and accuracy as to be irrelevant.  This is like me saying it is “broadly accurate” to say it is hot and there is snow in China.  They are both true and broadly accurate but provides me no usable information about when, how much, or to what degree.  There is still no serious defense of official Chinese GDP data.

Another point made by one of the Chinese GDP defenders is that if GDP data is manipulated, it would require fiddling with underlying data. There is only one problem with this point: we know that underlying data category after underlying data category is manipulated.  For more than a decade, Chinese unemployment spent most of its time bouncing between 4-4.2 percent.  Chinese economists became skeptical of the number and conducted a study estimating urban unemployment during their sample period reached 10.9 percent. Inflation data in China was understated by about 1 percent annually between 2000 and 2011.  Others focus on a miscalculation of the GDP deflator with regards to how imports and exports impact national accounting.  Chinese exports have been overstated by upwards of 30 percent, though in all fairness this is due primarily to the Chinese form of transfer pricing even if the government looks the other way. Additionally, the enormous discrepancy between underlying provincial GDP and national GDP is well noted, with only a few provinces reporting growth beneath the national average a statistical impossibility.  More recently, there are significant discrepancies between output of consumer products and retail sales to name but a few industry level statistical anomalies.  If commentators want to point out that manipulating GDP data would require manipulating underlying data, there are these and a variety of others to choose from.  One final point here.  We know that Chinese bureaucracy controls, manipulates, and hides all nature of information throughout the entire government apparatus.  Just this past week, China declared itself, and no I am not making this up, the world’s largest democracy.  It strains credibility to believe that the Chinese government acts throughout the state the way it does to manipulate data while simultaneously behaving like well meaning, earnest choir boys when the subject is economic data.

One other argument that has been made is that China is transitioning to a consumption and service sector economy. I have covered this point in greater detail at FT Alphaville where, in short, covering significant amounts of retail, consumer, and services sectors, I find no empirical evidence that growth in the sectors is growing anywhere close to what some people claim.  There simply is no empirical evidence that Chinese consumers and services are rapidly growing to transition the economy.  What is amazing is the proponents of this theory admit they have no actual data to support what they are saying.  One proponent, in trying to argue to China is transition to a consumption led model, actually writes “China’s transition to consumption-led growth is that there are no high frequency data to support the analysis.” Yet conversely somehow, the lack of data can conversely be used to argue in favor of a transition to consumption based economy?  If critics have it wrong and there is no data that we can use to estimate service and consumption growth, then the same is absolutely true for those who argue the opposite.

The last major flaw by proponents of Chinese GDP data is that they use official Chinese GDP and national accounting data to support their argument that official Chinese GDP and national accounting data is accurate. This is the peak in intellectual circular logic.  If the data or data producer is in question, you need to produce other data that supports your argument.  For instance, the service sector and consumption data cited comes from the same people who bring you the GDP data in question.  This is similar to arguing Enron’s profitability is accurate based upon their revenue.

The fundamental problem faced by defenders of Chinese GDP data is that they do not dig into official data and look at some of the enormous glaring problems. One defender relies heavily on World Bank data while another cites official topline Chinese data to defend official topline data.  Neither take the time to examine the glaring discrepancies.  According to official data, urban housing CPI from 2000 to 2011 was 6 percent total — that is not 6 percent annually but 6 percent total over 12 years during a period when GDP growth was averaging 9 percent or more and inflation was significantly higher.  If you update this the number becomes about 12 percent in total from 2000 to 2013.  Official data is essentially implying housing fell relative to income, wages, GDP, and pretty much everything.  Anyone with any knowledge of Chinese housing prices, not just real estate asset prices, knows that this number is pure fantasy.  However, not only is the explicit data clearly manipulated data but the underlying data is manipulated.  To produce total national housing CPI, the National Bureau of Statistics China (NBSC) created a weight between urban and rural areas.  According to the NBSC, urban areas received an implied weighting of 80 percent to benefit from the already once manipulated CPI data that would produce a better national number.  Now China is likely at least 20 years away from being an 80 percent urban country, and was much less in 2000.  The key issue here is that this was not a rounding error, miscalculation, or poor methodology, this was pure and simple fraudulent manipulation of statistics.  Some defenders have, in a point of concession, acknowledged there might be some statistical methodology issues but nothing else.  To anyone who believes this, if you publically declare that China was 80 percent urban in 2000 and every year since and that urban housing inflation has been approximately 10 percent since 2000, we can discuss anything you want.

China has undoubtedly grown significantly over the long run and this is unquestionably good for China and the world. However, that is not the question.  The question is how reliable Chinese GDP figures are.  I believe as a baseline case from my own research alone, real Chinese GDP would need to revised downward by a minimum of 10 percent or approximately US $1 trillion.  Add in other known problems and I believe the number could go as high as a downward revision of 30 percent of real GDP.  Think of it using a simple scenario: let’s assume every year since 2000 China has overstated GDP by 1 percent.  In other words, 10 percent is in reality 9 percent.  That would imply that today, China needs to revise current real GDP downwards by approximately 16 percent.  This would still mean that China has grown significantly but also, as a mountain of clear evidence indicates, Chinese GDP growth has been overstated. Finally, it is important to note that lots of little numbers are clearly off but all these little numbers add up to big changes, especially when added up over time.  Chinese GDP data is broadly accurate in that the Chinese economy has grown significantly over time.  However, accounting for the very real holes in the Chinese national accounting, it would appear to require downward revision of at least 10 percent and quite probably significantly higher.

I look forward to attending the meeting where American economists living in the United States sit down with the Premier of China and explain to him what is wrong with his views of Chinese GDP data.  That should be fun.

The post Why I Don’t Believe Chinese GDP Data appeared first on The Nanfang.

Despite the hand wringing over market volatility, non-Chinese markets have been, by a variety of measures, almost boring.  For instance, if we look at the S&P 500, FTSE, Nikkei, Hang Seng, and Shanghai indexes, of the 100 largest absolute daily movement in 2015, 75 of them come from either the Shanghai or Hang Seng with 60 coming from Shanghai.  As the Chinese market has convulsed in near violent gyrations – not to mention emerging market currencies and commodity declines – all but 25 individual trading sessions in major markets outside China have stayed between +-2 percent.

These results are borne out by more widely viewed statistics.  Various measures of volatility indicate that not only are Chinese markets 3-10 times more volatile than other major markets but that these other markets are near boring.  For instance, the absolute median daily volatility for the S&P 500, FTSE, and Nikkei is between 0.6-0.8 percent.  Even after last weeks “volatility” the high-low differential for the entire year is only 14 percent on the S&P 500 implying rather tight trading range for the year.  Considering the yearly average since 2010 has been 24 percent, there is little reason to think markets are somehow broken or contagion is running rampant.

Even by historical standards volatility does not appear to be outside normal ranges.  Of the top 25 most volatile day to day swings of major markets outside Shanghai since the beginning of 2010, three of the S&P 500 happened in 2015, three for the FTSE, two for the Nikkei, and five for the Hang Seng.  Only in Shanghai, where 17 of the 25 most volatile trading days happened in 2015, has there been a notable uptick in volatility.  In other words, most markets seem to be going about their business in a business-as-usual manner.

Nor do investors appear to be herding.  In 1997 and in 2008, one of the aspects that caught many people by surprise is how closely correlated all markets and outflows became.  Now, at least so far, investors appear to be differentiating between countries, businesses, and a variety of other factors.  There is little evidence of herding.  Certain emerging markets and even developed market economies like Australia and Canada are facing pressure, but investor decisions appear to distinguish between broad classes of countries.  Even looking at specific companies, investors appear to be distinguishing by business model, major assets, and revenue sources.  Some companies have been pushed down due to their exposure to China whether they are commodity-focused companies or even Apple.  However, there is little evidence of mass herding.

Finally, given their importance in the market whether it is stocks or currencies, there is evidence that algorithmic trading has played a significant role in stabilizing the markets.  After falling relatively sharply beginning on August 21 for a number of days, major markets outside of China began sharp recoveries that have returned them largely to the point they were on August 21.  While we cannot say with certainty that algorithms are responsible, the rapid rebound from a fear induced sell-off would seem to seem to match with how many of those types of programs especially when many of the economic fundamentals of the major markets presented here are better than China.

One final note, markets outside of China have robust day trading, short selling, and algorithmic trading firms.  China does not.  China has volatility measured any number of ways ranging from 3-10 times higher than other major markets this year.  While this is not to say it would disappear or converge to the range of other markets if they allowed these trading strategies, China certainly isn’t making a strong case that arresting short sellers, prohibiting intra-day trading, imposing price limits, and algorithmic is lowering volatility in China.

It seems a little perspective on trading volatility, investor rationality, and algorithmic trading is needed in these times of above average stress.

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Come this fall, some 36 Guangzhou elementary and middle schools will serve as the pilot project for the program, which, if successful, may expand to other provinces around China. According to the CSRC, about 10,000 students will receive the training as a way to “popularize” responsible financial management.

The curriculum will be specifically prepared by experts selected by the Guangdong branch of the CSRC.

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