Exporting credit crunch to China & Asia

By Neil Behrmann

London, November,08:- Economists and strategists fret that the US and Europe could export their credit crunch to China and Asia. They are changing their tune on whether the Asian economy can sidestep the shakeout from the US and European financial turmoil.

This contrasts with the mood in the autumn of last year. Then the majority of economists believed that growth of China, India and North and South Asian economies would vastly outperform their European counterparts.

China fears

Albert Edwards, Societe Generale's global strategist fears that the 'big surprise in store is what could happen in China'. The potential for a deep recession in the US and Europe are already on the radar screen, but people will be stunned if China's economy slows down sharply, he warns.

Mr Edwards contends that as America tightens its belt and imports less from Asia and other emerging markets that produce the goods, the virtuous BRIC (Brazil, Russia, India & China) growth circle could turn vicious.

'The consensus has a touching belief that emerging markets will prove resilient despite a deep downturn in developed economies,' says Mr Edwards. 'My view is that an outright contraction in global GDP is entirely possible next year.'

Several other economists and Asia observers, including Simon Hunt of Simon Hunt Strategic Services, a regular visitor to China, Kirby Daley, strategist of Newedge Group and Brendan Brown, London- based chief economist of Mitsubishi UFJ Securities International, have less extreme views than Mr Edwards, but are also cautious about China and Asia.

Their concern is that the boom in the US and Europe raised imports of goods produced in China, India and the rest of Asia, but now these economies are contracting, their purchases are falling rapidly.

How the Western credit boom boosted the Asian economy

The US consumer has not only boosted Asian growth directly via exports, but over a period of a decade China and emerging market central banks purchased US dollar assets to curb appreciation of their currencies, says Mr Edwards of Societe Generale.

The net effect was that their money supplies surged, providing rocket fuel for the region's rapid economic growth. But this cycle has now 'turned vicious' as US and European imports decline, Mr Edwards believes. Thus in recent weeks investment flows have begun to reverse out of most emerging markets, causing Asian and other central banks to support their own currencies. This process reduces the money supplies of emerging nations, causing a slowdown. The US and Europe have thus exported the credit crunch to Asia.

Liquidity in China & Asia beginning to contract

'China's leadership are very worried about the economy. They think that at best global growth will be sub trend for a number of years and worst go into recession,' says Mr Hunt. 'They want to position the country for the eventuality by pricking the property bubble.'

Banks are now starting to see impaired loans after several years of excessive lending, Mr Hunt continues. So far this year around a net US$51 billion of foreign portfolio money has exited Asia. Foreign banks are also likely to close derivative positions and repatriate money that is required in the US and Europe. This trend could contribute to a contraction of liquidity in Asia, Mr Hunt believes.

The region is the manufacturing hub of consumer appliances and electronics and housing slumps in the US and Europe and slowdown in Asia, are already causing inventories to pile up in the distribution network, Mr Hunt adds. So far production has not yet been cut to match actual demand, but the trend is for a much weaker Asian economy and slowdown in China.

Fitch Ratings has also warned that despite good first half profits, Chinese banks are now encountering difficult times. Fitch said there are early signs of an increase in loan delinquencies. It warns that Chinese banks had used an 'underground market' on a large scale to stoke up lending. 'These types of credit and/or institutions fall outside the traditional structures of financial supervision, exposing banks to a growing amount of risk that is for the most part hidden.'

Even without such off-books liabilities, the banks are facing a crunch as the economy slows hard and the property market stalls. Shenzhen house prices are estimated to have fallen by 30 per cent and the Baltic Dry Index has tumbled recently on weaker demand for steel from Chinese construction companies.

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