The Rise and Stall of China
March 04, 2013

The Rise and Stall of China

I don’t invest in China.  When I chose an international stock market ETF, I bi-passed the Middle Kingdom, purchasing Vanguard’s first world index for its absence of Chinese companies.  Am I bit backward?  You might think so.  But exposure to the world’s fastest growing economy might be a drag on a globally diversified portfolio.

As I reported in my book, Millionaire Teacher, between 1993 and 2008, Chinese GDP grew 9.61 percent each year.  Its stock market, in contrast, lost an average of 3.31 percent a year.  During the same 15 years, U.S. GDP grew just 2.77 percent annually, but America’s stock market grew 8.8 percent. 

Since 2008, the iShares FTSE China 25 Index (FXI) has dropped 33.05 percent.  The S&P 500 has gained 1.33 percent.   If you own a broad international stock market index, China could be holding it back.

I can’t explain China’s horrific stock market performance, but I’m always looking for answers.

Last week, I was in China’s Yunnan province, where I spent a week with American Kevin Skalsky.  For the past 15 years, he has been working as a social developer in the Chinese town of Shangrila.

 “Surely,” I asked, “China’s the next economic superpower, right?”

In response, he just laughed. 

 “That’s what the west thinks.  And that’s what China wants them to think.  But China’s corrupt on the government level, and their businesses aren’t regulated.   All kinds of numbers, including population and GDP growth are greatly exaggerated.”

 You might consider his views extreme, but it may explain (in part) the chasm between the country’s GDP and its stalling stock market over the past 20 years.

Most of China’s population can’t safely drink water out of the tap.  And their public toilets are a disgrace that the government forbids discussion about.  I’ve visited more than 30 different countries, and the ugliest restrooms (by far!) are those I’ve seen in China. 

Wrapped up, perhaps, in their own country’s promise, developers are building condominiums and resorts to satiate the forecasted appetite for residential purchasers and holiday-goers.  But few are buying.  Between Lijiang and the mouth of the Tiger Leaping Gorge (a popular tourist location) Skalsky showed me thousands of new apartments sitting vacant.  Entire developments are collecting dust, without a single occupant.  Some have been sitting for more than a decade.

Starring in disbelief, I was shocked to see a development crew building yet another condominium, next to the rows of dilapidating units that nobody seems to be buying.  As Skalsky explained, this is occurring all over China.  If it happened at home, alarm bells would ring.

Oddly, the government plans to dam the Yangtze river at Tiger Leaping Gorge, with many of the buildings (including those currently being built) standing well below the flood-line.  It’s not an example of foresight.
When reading The Beijing Review, I saw something equally disturbing.  China’s National Economic Research Institute claims that more than $705.8 billion U.S. dollars goes undeclared as taxable income.  Considering that there roughly one million reported millionaires in China, a shocking percent of the “haves” could be skipping their social (some would say communist) responsibilities.

It may be an excuse or a justification for limited attention to social infrastructure.  Even in China’s showcase cities (Beijing and Shanghai) you can’t drink water out of the tap.  Pollution levels in Beijing are currently at toxic levels with the Air Quality Index exceeding five hundred.  According to The World Health Organization safe levels are below twenty.

China may be focused on impressing the world.  But I think it’s in trouble.  

In Paul Midler’s bestselling book, Poorly Made in China, he suggests that the art of deception is a cultural business creed.  As an American working in China, he’s skeptical of the country’s economic future.  Corrupt business practices, no regulations and a tendency to make ever-worsening products (to improve profit margins) could eventually bite the country in the rear. 

What’s more, as Midler points out, no country can lead without innovation.  The Chinese are great copiers, but you can’t win a race when you’re sailing in the wake of others.

If you still want to buy into the Chinese stock market, that’s your decision.  But buyer beware.  It has a terrible track record.

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