The Great Red Hope

Bill Bonner - Thu 12 Mar, 2009

China's Exports Suffer from Depression but hope is on the horizon

The Great Red Hope. We’ll get to the commies in a just a moment. First, a question: what happened to Tuesday’s big rally?

Yesterday, stocks held steady. The dollar lost ground. And gold rose back over $900.

So, are we at the beginning of a major rally... or did it end in a single day? We wait to find out.

In the meantime, let’s look at China.

Yes, dear reader, the whole world turned its lonely eyes to the reds: “Touch us!” “Heal us!”

China, with its bumptious population...its boisterous growth... and its boney-handed politicians... is the world’s hope for a fast recovery.

“China will be the first out of the slump,” says our old friend Jim Rogers. Jim has staked his fortune, his fame and his future on two things: commodities and China.

Of course, the two go together. If China can continue to grow, she will demand more and more commodities. Prices for wheat, iron, tin, coal – just about everything – will rise as China raises living standards. Or not.

China doesn’t even need to grow wealthier in order to use more commodities. Like her saffron neighbour to the South, India, her population is so large, and growing by such huge numbers, that she struggles just to keep up. One percent population growth is not a lot. But one percent of 1.3 billion is 13 million people – equal to America’s entire jobless population. And that, of course, is an increase that happens every year.

The Middle Kingdom, as it is known, is thought to have an advantage in the fight against depression. It doesn’t have to argue with Republican lawmakers, civil libertarians, or sensible people of any sort. If the reds want to do something – no matter how inspired or moronic it is – they can usually do it.

But here is a fork in the road. So we will take it. We don’t follow events in China the way Jim does. Maybe he’s right; maybe China will be the first one out. But we have a feeling that William Pesek might be right too. The idea that China will tug the whole world out of depression is “pure fantasy,” says he.

“Chinese exports slump 25% as demand wilts,” says a headline in the Financial Times this morning. Not hard to figure out why. Remember, this is a depression, not a recession. In a recession, consumers take a breather... orders slide... and exports decline. But it is only temporary... and not catastrophic.

But let us follow the export trail to see if we can figure out what is going wrong.

Let’s see... there’s the factory in Quangzhou. Hmmm... it has cut its production schedule. And there’s the truck leaving the factory... only ¾ full. Orders have fallen off... It arrives at the harbour in Hong Kong. And there it finds the shipping schedule has been cut (along with prices)... drastically. After the container is placed onboard, the ship hoists anchor and is off. Two weeks later – for it is sailing more slowly than it used to, in order to cut expenses by preserving fuel – it arrives in Long Beach... where it is quickly unloaded and put on a truck that will take it to a warehouse, where the container will be opened and its contents off-loaded onto other trucks for distribution to retailers all over the US. The whole process takes less time than it did a few months ago – simply because there’s less traffic and less back-up at every step. When finally the merchandise gets onto the shelves, it finds fewer shoppers looking it over and fewer buying.

And here we find the source of China’s troubles... and the reason it cannot quickly recover. It has set up its economy to provide end products for foreigners. Those foreigners can’t and won’t buy like they used to; they don’t have the money. The credit bubble has popped. It’s over.

Well, maybe the Chinese could lend US consumers money? Ah... there lies a trap. US consumers have more than twice the debt they usually carry. The last thing they want is more. They’ve seen how hard it can be to pay back debt – especially when you lose your job. Unemployment in the US is already over 8%. It will probably be over 10% by the end of the year. In 4 states, it is over 10% already. Each percentage point represents about 1.5 million people who aren’t buying many Chinese goods.

Well, maybe the Chinese could make stuff for their own people? Yes, they could... and they will. But that’s what makes this a depression and not a recession. The whole structure of the economy must change. In the photo accompanying the FT article, for example, it shows a factory in Beijing that makes a third of the world’s violins – almost all of them exported. Sure, the Chinese could decide to take up the violin en masse. But that’s the sort of cultural change that takes time. Or, the factory could switch to making laundry cabinets. Again, it is possible... but it takes time. And the adjustment is painful. The violin makers need to be retrained. Many will be fired as the factory searches for a new product line. Without revenues, perhaps it will go broke... and then be repurchased at auction by a laundry cabinet manufacturer.

This is the process of creative destruction that Schumpeter described. One industry is destroyed so that another might be created. It is what depressions are good for. It is what we all face now – including China. Maybe especially China.

Won’t the Chinese be able to do it faster – since the commies are still in control?

Oh, dear reader... you are treading on our soul when you ask a question like that! If we learned anything in the last 100 years it was that command economies don’t work very well. Compared to the free market – with its elegant intelligence and infinite information – central planning is clumsy, ham-fisted and ultimately unproductive. The commanders are invariably morons. And the commanded spend their time and energy not doing their bidding, but finding ways to avoid doing it.

More on China… and how you could profit from it… below…

But first, more news:

“What’s driving the price of oil right now is the prospect of another production cut when the OPEC oil cartel meets in Vienna this Sunday,” writes Manraaj Singh. “OPEC has said that they will cut production again if their previous cuts are not enough to drive the price of oil back up. Right now, West Texas Intermediate (WTI) oil is trading at about $47 per barrel. But OPEC wants it at $70 - $90 per barrel. So I expect it to go a lot higher over the next few months. “The price of WTI has risen above that of other major crude oils like North Sea Brent and Dubai Sour. WTI has historically been more expensive than other oils. But the price of WTI has recently lagged behind the rest of the market because of what I dubbed the ‘Oklahoma Oil Trap’ – the build-up of oil inventories in the city of Cushing, Oklahoma.

“Last week, I reported that inventories in Cushing were beginning to fall. The glut of oil at the delivery point that was driving the price of WTI oil down looks like it has gone into sharp reverse. The graph below shows the oil inventory levels in Cushing, since the start of this year. And the latest data shows that oil reserves there are continuing to fall.

Oil inventory levels Cushing

Source: Bloomberg

“There were 34 million barrels in storage at the end of February. That’s half a million less than the week before. I expect that this trend will continue. The US summer “driving season” begins in May. That’s when Americans pack up and drive off on their summer holidays. This is usually when petrol demand in the US peaks. At the same time, Barack Obama’s public works programme is beginning to kick-in, which should further boost demand for energy. And that is going to add further pressure to push the price of oil higher. The twin triggers of falling inventories at Cushing and further cuts by OPEC could mark the start of a longer-term rally...”

Manraaj believes this coming Sunday, 15 March could be the trigger point for the coming oil rally. Being invested in the right share ahead of that could be a smart move. You should see the clever way he’s found to profit from it.

And more thoughts:

*** Meanwhile, in the West... the parasites and wealth destroyers are angling for other peoples’ money. Jamie Dimon, head of JP Morgan, urged lawmakers not to behave like a “dysfunctional family.” Instead, they should get behind the president, he said. ‘And start shoveling out the money,’ he didn’t say.

Yes, the president is asking for ‘shovel ready,’ projects... and everyone seems to have a shovel now. Browsing the internet, we found an ad:

“Trillions in Government Grants Available... here’s how to get yours.”

There, you discover that the government is giving away “grants,” and all you have to do is apply for one. Following the headlines is a series of testimonials from people who’ve actually gotten money “you don’t have to pay back” from Uncle Sam.

“Maybe it’s just a scam,” Elizabeth suggested when we described it to her.

“That’s the sad thing... it’s probably real. The feds are so eager to give away money, people probably can get a ‘grant’ if they put their minds to it.

Rarely have the leeches had so much public support. “This is an emergency,” says a typical headline in the financial press, “government has to get its act together.”

And so the fix is in. Too bad it only makes things worse.

*** Speaking of making things worse, Alan Greenspan rose to his own defense this week. It’s not his fault the world economy is a mess, he said. The report from Bloomberg:

“Given the decoupling of monetary policy from long-term mortgage rates, accelerating the path of monetary tightening that the Fed pursued in 2004-2005 could not have prevented the housing bubble,” Greenspan said.

“The Fed cut its target rate for overnight lending between banks to 1 percent in June 2003 from 6.5 percent in December 2000, and left it unchanged for the next year. Between June 2004 and June 2006, it raised the rate in quarter-point moves to 5.25 percent.

“Foreign demand for U.S. Treasuries helped keep long-term debt yields from rising as the Fed started to raise rates in 2004, leading Greenspan in 2005 to call the anomaly a “conundrum.” Foreign ownership of U.S. government debt doubled between 2000 and 2005 to $2.03 trillion, Treasury data show.

“Many developing economies adopted policies favoring export- led market competition in the early 1990s, Greenspan said.

“The result was a surge in growth in China and a large number of other emerging-market economies that led to an excess of global intended savings relative to intended capital investment,” he said. That “propelled global long-term interest rates progressively lower.”

It matters “a great deal” to understand what caused the bubble in the real-estate market, he said.

“If it is monetary policy that is at fault, then that can be corrected in the future, at least in principle,” Greenspan wrote. “If however, we are dealing with global forces beyond the control of domestic monetary policy makers, as I strongly suspect is the case, then we are facing a broader issue.”

“Greenspan, who served 18 years as Fed chief, took office just before the 1987 stock-market crash. He led the central bank during two eight-month-long recessions, the Asian financial crisis, the 2001 terrorist attacks and the bursting of the Internet bubble.

“Policy makers should avoid “heavy regulation” in trying to navigate out of this financial crisis, Greenspan said.

“The solutions are “higher capital requirements and a wider prosecution of fraud, not increased micromanagement by government entities,” he said. Governments need to “ensure responsible risk management on the part of financial institutions while encouraging them to continue taking the risks necessary and inherent in any successful market economy.”

*** “The Australian Bureau of Agriculture Resource Economics reckons that China will soon regain its appetite for Australian commodities, with the financial crisis likely to put only a temporary dent in its massive and growing demand for iron ore and coal,” notes Tom Bulford.

“It could be a good time for investors to revisit the commodities theme. The share prices of the big mining stocks Rio Tinto and BHP has been edging up in the last three months. And I also like the high yielding shares of Anglo Pacific, which last year received £22m of royalty income from its Australian coal interests. Equity investors should take the long term view – now more than ever.

“But I have a better idea. There are only two other coalfields in the world that can rival Queensland’s massive Bowen Basin. One of them is much closer to China, is barely yet exploited but could make a fortune for companies and investors that get involved now. That’s why I’m recommending it to my readers…”

To learn more about Tom’s simultaneous China/coal idea, see March’s edition of his newsletter Red Hot Penny Shares. Follow this link for details of how you can get this.

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