By Anjan Roy
It is a long haul from the BRIC report of Jim O’Neill of Morgan Stanley who had predicted the changing kaleidoscope of the world economy. The report predicted that in a short while of three decades, China and India would become the second and third biggest economies and then over another few decades, China would overtake United States.
It was a startling forecast.
Back in those days, when the Morgan Stanley report of Jim O’Neill was first released, nobody would even think of the United States once being eclipsed in economic league table rankings by a yet to be really tested China. In those days, United States was the undisputed economic super power, followed at a great distance by Japan. Thereafter came all the European countries like Germany, France, UK and other OECD countries.
Nearly thirty years later, much of what Jim O’Neill had predicted have turned out to be way different. The BRIC report had Brazil, Russia, India and China. Jim O’Neill’s report had quickly transformed into a sort of icon in the forecasters world and many such reports followed in quick succession. In later revisions of the original Jim O’Neill report, South Africa was added as the next emerging giant and thereafter many other were also taken in like Indonesia or Egypt.
A report now put together by the McKinsey Global Institute has shown that world’s wealthiest country today is China and not America. It surely raises the hackles of those who are still somewhat starry eyed about the West.
But league tables are just that. It depends on the units and measures that you select to judge the merits.
While the Morgan Stanley report was prepared on the basis of extrapolation of the GDP growth trends of countries concerned, the McKinsey Global report has taken the net worth of the countries ranked. The net worth is essentially a valuation of the assets of the competitors.
This could be tricky. Only the broad findings of the comparative positions have been released in the press. However, it is not clear whether the valuations have been made against some constant base prices or current valuations. On the face of it, it seems these have been the current price.
Such valuations have an inflationary factor. When the valuations rise then the net worth changes. It is a fact that the assets prices have been rising inordinately in China for a decade now, only occasionally showing some corrections.
McKinsey global report indicated that most of the assets considered are locked up in real estates. Of these, the home prices in particular have been rising steadily. So much so, that to retain affordability of house prices for the larger population, the Chinese authorities had to impose restrictions on real estate transactions.
The Chinese central government had imposed limitations on purchase of multiple dwellings and at one point the purchase of more than two houses by the same person were ruled out. These moves had somewhat calmed an otherwise sizzling housing market.
But even then the real estate prices had continued as hectic credit expansion in China found its way into real estate other than just residential houses. Commercial properties like shopping malls or office spaces continued to rise unabated and no restrictions were placed on these only to perpetuate a sense of boom.
The unrealistic expansion of these sectors based on huge funds flow at cheaper interest rates had meantime created an unsustainable situation in which scores of buildings remained unoccupied. Both commercial properties as well as dwelling houses were built and sold but remained unused.
The price correction in such situations, which should have naturally occurred and checked fresh funds flow into these sector, could not happen in China as the momentum was maintained and the assets were bank financed. Therefore, the millstones hung around the necks of banks and did not immediately come to developers.
In such an unreal situation, you have large population of asset owners who are feeling rich with their ownership, while the banks are saddled with the loans which might not just be recoverable. The Chinese banks have huge portfolios of such loans, which reflect on their viability. But nothing breaks in China as the government keeps the entire system rolling under directions. The going is good, as long as it rolls without a break in the chain.
It is now that some kind of difficulties with carrying on in this model is becoming apparent. China’s largest real estate company Evergrande is facing serious liquidity problems and struggling to repay its loans. The problem has come to surface only because the government has not bailed out the company. Had it been some other times, the government would have come forward and bailed Evergrande out and no one would have heard of any problems or financial strains.
Now why Evergrande has not been bailed out and the robber is festering is part of China’s overall policy stance regarding the super rich and billionaires. Since President Xi Jinping wants to humble the rich and loud-mouthed people and establish the supremacy of the Chinese Communist Party, outsiders are getting to see the signs of strains.
Why am I mentioning all these facts in the context of the McKinsey Global report?
Just to point at the basic faults in the assets league table. By the time the McKinsey Global report sinks in with the general readers, for all you know, a still more radical Xi move to teach lessons to the Chinese rich could drive down their asset values and the country could slide sharply in the Global Assets League Table.
And then, a word of caution is also forgotten in comparative studies. The nature of the economy and its stability varies widely.
House or asset prices in the United States or Canada or developed West do not rise much. In the mature markets, these prices (including that of stocks) remained rather muted.
However, the asset prices in the emerging markets fluctuate violently. For example, you could scarcely hope to see stock price jumps of the kind that you see in India, compared with the Western markets. The reason is that the markets in the emerging economies lack depth. Inflation rate of 5% is tolerated in India, while in the United States a 4% inflation rate has sparked off debates about an economic collapse.
The Morgan Stanley report was a comparison of a potential income stream, while the McKinsey report is a comparison of asset stocks on presumably current valuation. The latter is far more ephemeral than the former.
It is better not to make too much of the McKinsey method. (IPA Service)