“A national debt, if it is not too excessive, will be to us a national blessing."
---Alexander Hamilton
There are a lot of people who objects to what Michael Pettis had to say about the Chinese economy, which I discussed in the previous post. They will point out that whatever infrastructure or other investment that was made, it was somehow useful. Besides, if debt cannot be repaid, the government will just write it off.
When the Soviet Union won World War II, Their per capita GDP was something in the order of $2000 where as the United States at the time was already at $6000. The United States won the cold war in no small part due to the fact that the West in general and the United States in particular, made good use of the resources we had compared to the Soviet Union. Their economy fell behind and they were devoting ever increasing share of the GDP for their military. This was one of the unsustainable situations that contributed to their demise. Efficient use of resources means that there must be a positive return on the investment over a couple of decades.
Debt matters. A company borrowing money must have a higher return on investment then the borrowing cost of the debt. A nation borrowing money must do the same. China is increasing its debt load at a very fast rate in recent years. If China were a company, such debt loads must result in higher profits over the long term. For a country, that translates into GDP growth over the period of the debt. The Chinese GDP growth is slowing down. That means that the debt carrying capacity of China is not rising in proportion to the rise of the debt load. In the last seven years, the Chinese GDP growth has slowed from double digit growth to about 6%, at the same time, the Chinese debt has risen from 162% of GDP in 2008 to 266% of the much larger GDP in 2017. This is unsustainable and must be reversed over the medium term. The Chinese leaders must gradually wean the country off this treadmill of ever rising debt without comparable rise in GDP. China will go through a period of slower growth. The sooner they can get this done, the better off the country will be in the longer run.
Some say the Chinese economy will collapse due to the debt. While this might be a possibility, this is an unlikely event. The debts are mostly domestically sourced and the government has the power to make sweeping changes. The most likely scenario is a "lost decade" type situation like the Japanese.
The Chinese leadership understands this problem, but must deal with the trade war as well as domestic vested interests. I have faith that over the longer run the Chinese will be able to get the debt under control.
