Spate of Factory Closures, Soaring Transportation Costs Shatter ‘Decoupling’ Myth; May Signal End to 30 Years of Unprecedented Growth

TUCSON, AZ–(EMWNews – July 23, 2008) – Think an investment in Chinese stocks makes good

financial sense? Think again.

The Shanghai Composite Index is down 55% since October, the worst performer

of all global stock markets, and this may be only the beginning of a

long-term decline. China’s economy is headed for real trouble, and the

‘China boom’ may be in for a hard landing following the Olympic Games,

attributable primarily to rising transportation costs and the economic

downturn underway in China’s two largest export markets: the U.S. and

Europe.

A recent OECD report predicts wage and price inflation will erode China’s

export competitiveness, stating that “coupled with ongoing weakness in

external demand, exports and the pace of market share gains are projected

to slow markedly.” As China’s export-driven economy contracts, the limited

purchasing power of China’s domestic consumers is insufficient to replace

the loss of demand for exports.

“We expect a lag of 2-3 quarters before the real impact appears,” commented

Kevin O’Brien at risk analytics firm Sovereign Advisers. O’Brien cited

this year’s drop in trans-pacific containership traffic and the miles of

idled railroad container freight cars placed into storage by Burlington

Northern as early signs of the reversal of China’s past economic boom.

O’Brien added, “The accelerating global economic slowdown will have a

pronounced adverse effect on China’s economy. As a producer nation and net

importer of oil, China is particularly vulnerable to commodity price

inflation, and its economic and political stability is dependent upon hard

currency earnings derived from export manufacturing. China’s vast wealth

and income disparity means a seamless transition to a domestic consumer

economy is not possible.” (Click to read Sovereign Advisers’ current China

trends report).

China Dependent on Export Earnings as Largest Markets Slide Toward

Recession

With home foreclosures surging 53% in June and an economy that is “shaping

up to be the worst in a generation” according to a Harvard University

study, the debate is over as to whether the U.S. economy is in serious

trouble. With Europe also headed toward recession, China will suffer a

loss of demand from its two largest customers, making China (and the 250

million workers employed by mainland factories which produce exclusively

for the U.S.) acutely vulnerable to the global downturn.

‘Decoupling’ Myth Debunked

The notion that global economies including China have ‘decoupled’ from the

U.S. and will thus avoid the fallout from a U.S. recession is patently

false. Macroeconomist Nouriel Roubini reports this theory has largely been

promoted by Goldman Sachs and Treasury Secretary Paulson, a former chairman

of Goldman Sachs. As Roubini points out, the U.S. consumer remains the

engine of global growth, and with U.S. consumer spending in retreat,

export-producing countries will be especially hard hit. Roubini states in

regard to China that “its overheating is unsustainable and its dependence

on exports to the U.S. make it massively vulnerable to a U.S. slowdown.

So, expect a massive Chinese slowdown.”

Zhang Tao, an official of the People’s Bank of China, also refuted the

notion that China’s economy can decouple from the United States, stating,

“If U.S. consumption really comes down, that’s bad news for us.” Wang

Jian, head of the China Society of Macroeconomics, agrees, stating that

“global demand is ultimately driven by the United States.”

Echoing Mr. Tao’s remarks, Diane Swonk, chief economist for $32 billion

asset management firm Mesirow Financial, stated, “We are seeing weakness in

the U.S., and the whole idea of a ‘decoupling’ of the U.S. and external

economies is being debunked.”

With per capita income just $2,800, demand from China’s domestic market is

far too small to replace the loss of demand from export markets, as the

vast majority of the country’s population remain too poor to participate in

China’s nascent consumer culture.

China Losing Competitive Advantage

The yuan’s 16% appreciation against the U.S. dollar since 2005 has placed

enormous pressure on low-margin exporters. Xinhua reports 2,331 shoe

factories in China’s Guangdong Province, half the total, closed in the

first five months of 2008.

Factory owner Tim Hsu, whose lighting fixtures plant is operating at just

60% of capacity, predicts that half of China’s lighting factories will

close their doors this year. “Shoe factories, clothing, toys, furniture,

everyone is shutting down,” he says. Philip Cheng, chairman of Strategic

Sports and producer of half the global supply of motorcycle, bicycle, and

snowboarding helmets from 17 plants, says, “Now we are dying.”

The OECD study predicts the end of China’s competitive advantage in

manufacturing, as rising transportation costs cause relocation of

manufacturing industries away from China and closer to U.S. and European

consumer markets. Coupled with weak domestic demand, factory shutdowns

will likely accelerate.

“The Asian outsourcing game is over,” says CIBC World Markets chief

economist Jeff Rubin.

“Clouds are now forming over China’s economy,” warns Stephen Green, chief

economist at Standard Chartered Bank in Shanghai, adding that “the golden

years are over…”

In the face of a contraction of consumer spending in the U.S. and Europe,

and with the majority of China’s population too poor to replace lost export

earnings via the domestic market, China’s heyday may well be in the past.