Talk about running even before the starting gun has been fired. On Tuesday, the Tamil Nadu government announced it had asked the Asian Infrastructure Investment Bank to join hands with the state to promote a new state infrastructure fund company. The state is seeking Chinese investment and collaboration in increasing the speed of the Chennai-Mysuru railway line and in renewable energy.
From Canberra to Chennai, everyone is racing to get on the gravy train that China's huge appetite for investment overseas represents. The Tamil Nadu government's move is both opportunistic and opportune. It represents a model for the rest of India. Given the absence of genuinely independent regulators in many sectors and the hefty leverage taken on by corporate entities in an earlier round of infrastructure building, India has few other options. In Kazakhstan, for instance, China has built a 3,000-km oil pipeline from the Caspian Sea to Xinjiang. China National Petroleum Corporation has even built a 25-storey hotel that towers over downtown Astana, the country's capital.
Given the experience of the Chinese state-owned enterprises (SOEs) of the country's own crony capitalism and their ability to navigate equally murky business practices from Kyrgyzstan to the Congo, they would fit right in in India. One could argue that their state-owned banks might fail as spectacularly at keeping some of our companies on a repayment schedule as India's public sector banks have, but the difference is that China has almost $4 trillion in reserves. Any money it loses in India - and they almost certainly would lose their mandarin jackets dealing with our unpredictable state governments and unprincipled infrastructure companies - would be a rounding error in the national accounts. And we might even get some world-class roads and railway lines in the bargain. What's not to applaud?
The catch is that India's state governments must move with the alacrity that Tamil Nadu has. The reason is, ironically, that with every month China is inching closer to a financial crisis at home. In the complicated balancing act between managing its huge debt - China's debt-to-GDP ratio is 282 per cent, according McKinsey - and keeping growth chugging along, China is pushing for growth with potentially destabilising moves.
Which government other than China's communist plutocracy would make it easier as Beijing did on Monday for the rich to buy second homes by reducing the down payment required from 60-70 per cent to 40 per cent? It even slashed the time that property owners would need to hold the properties to just two years (from five) before they sold them to enjoy an exemption from capital gains tax. In response, the Shanghai stock market soared to a seven-year high.
That seemed wildly optimistic, given that property sales - and with it steel and cement consumption - have continued to decline despite two interest rate cuts since November. Land sales suffered a sharp fall in the fourth quarter of last year as real estate companies cut back on expansion plans.
Tectonic plates under the foundations of the economy are shifting. The Chinese appear to be losing their belief that real estate is a better store of value than putting money in the bank. Over the past several years, deposit rates were negative in real terms, which prompted many Chinese to bet their savings on an apartment as Indians do on gold. Now, inflation-adjusted deposit rates are 2.5 per cent, the highest since 2009. Last week, even as news of the government's impending moves to relax capital gains exemptions and reduce down payments filtered through the market, a Credit Suisse analyst in Hong Kong reports that wealthy investors he was travelling with to Tier-II cities in China seemed disinclined to buy property. No wonder: the value of housing sold in 2014 fell by eight per cent.
Take away the presumption of profiting from property in perpetuity and China's property market looks to be on shaky foundations. Its waning fortunes have implications for the heavy industry sector, which is reeling also from the decline in commodity prices. Both trends have contributed to railway freight volumes declining on a three-month moving-average basis by almost 50 per cent. As the research consultancy Gavekal Dragonomics observes, "Commodity prices and Chinese industrial profits are correlated very tightly; energy and materials sectors account for a large share of total profits … industrial profits started falling in October and a deeper decline is still to come." Profits at SOEs have dropped even more sharply.
The knock-on effects will keep knocking percentage points off China's growth rate, already estimated to be about four per cent, despite the official 7.3 per cent for the fourth quarter of calendar 2014.
The cuts in interest rates will increase lending, but as the big banks predominantly lend money to the big SOEs, loosening credit offers a stimulus to the least efficient part of the Chinese economy while leaving its entrepreneurs out in the cold.
Debt service ratios have come down, thanks to the interest rate cuts, but they are still in the low double digits. Reducing local government and private sector debt while hoping to grow the economy at a GDP growth rate of seven per cent seems a confusing goal. It leads to policy initiatives like Monday's, which, in effect, encourage property speculation to prevent the real estate bubble from deflating.
The logic is neck-wrenching, but it is winning over Chinese retail investors. Bloomberg's Tom Orlik offered one plausible explanation this week: two-thirds of Shanghai's stock market investors have not completed high school. Even with the economy slowing and profits declining, China's market capitalisation has doubled in the past year to $6.5 trillion.
Just as China appears to have humbled the United States because almost everyone wants a seat at the table of its new financial institutions, its own stock and property markets look set for a sharp fall that could slow the economy for years. All the more reason to move as quickly as Tamil Nadu did while the Chinese government is still feeling flush and wants to throw its renminbi around to cut the United States down to size.
Twitter: @RahulJJacob
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