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China: To Stimulate Or Not To Stimulate, That Is The Question

June 11th, 2014

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This blog post was originally published on the MoneyGeek.ca blog by Jin Choi. The website no longer exists, but Jin has graciously allowed us to re-publish his research for the benefit of future investors forever.

"I think Chinas property market is like the Titanic and it will soon hit an iceberg in front of it. After hitting the iceberg, the risks will not only be in the real estate sector. The bigger risk will be in the financial sector."

These quotes are not by some doom mongering economist. The quotes actually belong to Pan Shiyi, the co-founder and chairman of Soho China, a Chinese property developer that's currently worth$4 billion. Apparently, he had only said those words once he thought there were no journalists in the room.

Back in February, I highlighted China as the big risk that could hit global economic growth, and take our investments down with it. In this article, I want to give an update on what seems to be happening.

Over the past few months, it became increasingly clear that China's economy was indeed slowing down. China's manufacturing sector contracted for 4 straight months,Korean exports to China tumbled, and property sales declined by 24%.

However, despite the slowdown, financial markets have hardly reacted. Canadian stocks went up by some 4% in the last 3 months, and Australian stocks, which are even more dependent on resource sales to China, went up by 1%.

So what gives? Are the financial markets just really complacent?

Perhaps, but probably not. It looks as though the investors believe the Chinese government won't let their economy slow down too much.

In my article on China, I paraphrased George Soros in saying that the Chinese government had two choices. They could either let the property bubble pop and suffer a recession now, or they could stimulate the economy again and risk an even bigger bubble a couple of years down the road.

Initially, the Chinese government appeared to be taking the first path. Xi Jinping, the Chinese president told his country to get used to slower growth. They also decided to introduce a "mini" stimulus package as opposed to a larger stimulus package to support the faltering economy.

However, when push came to shove and they were faced with a falling economy, they gradually began to increase the stimulus packagebyannouncing plans for major investments in railways and public housing. Essentially, they began leaning towards kicking the can down the road.

This change of heart is starting to get some people worried. Just this month, a senior IMF official urged China not to stimulate their economy too much, as doing so would make their economy more vulnerable down the road.

At this point, it's unclear how the Chinese government will act, and how it will impact the Chinese economy. While the recovering global economy is giving some relief to their economy, their property prices continue to decline.

If the property bubble is allowed to fully pop, it's hard to imagine that it won't significantly impact China's broader economy.

This blog post was originally published on the MoneyGeek.ca blog by Jin Choi. The website no longer exists, but Jin has graciously allowed us to re-publish his research for the benefit of future investors forever.