The news out China seems to be getting worse.

Last week the NY Times reported about China’s huge inventory build of unsold goods,

GUANGZHOU, China — After three decades of torrid growth, China is encountering an unfamiliar problem with its newly struggling economy: a huge buildup of unsold goods that is cluttering shop floors, clogging car dealerships and filling factory warehouses.

The glut of everything from steel and household appliances to cars and apartments is hampering China’s efforts to emerge from a sharp economic slowdown. It has also produced a series of price wars and has led manufacturers to redouble efforts to export what they cannot sell at home.

The severity of China’s inventory overhang has been carefully masked by the blocking or adjusting of economic data by the Chinese government — all part of an effort to prop up confidence in the economy among business managers and investors.

This followed the disappointing flash manufacturing PMI report, which showed a rapid deterioration in China’s industrial sector with the index falling to a 9-month low.

What is happening to all the unsold goods piling up in China and why isn’t the market working to clear the excess supply?   Government manipulation and good old fashion channel stuffing.

Writing for Forbes, Gordon Chang notes,

It’s hard to see how manufacturing will recover soon.  Manufactured goods are stockpiled at record highs across China.  “My supplier’s inventory is huge because he cannot cut production—he doesn’t want to miss out on sales when the demand comes back,” said Wu Weiqing to the New York Times.

Perhaps that explanation makes sense, but it’s far more likely that Wu’s supplier, which makes sinks and faucets, had been told by the local government to keep production lines going no matter what.  And why would city and municipal officials do that?  For one thing, local officials don’t want to deal with unrest that idle workers cause.  Moreover, lower-level cadres are judged by growth in their districts.  The value of a sink sitting in a factory’s inventory, even if never sold, is counted as gross domestic product.  Mr. Wu’s employer, a wholesaler, has seen its sales fall 30% over the course of the last year.

The steel and auto industry are also being hit hard,

The past for Chinese steel is unclear, but the future is certain.  The signs for the remainder of the year are, unfortunately, uniformly bad.  The price of benchmark hot rolled steel has fallen 19% since April.  In the first half of this year, the profits of steel companies dropped 96% from the corresponding period in 2011.  Steelmakers have been defaulting on their obligations to purchase iron ore, a sure sign production will tumble soon.  Daily output this month, according to the analysts at Mirae Assets Securities, could be as low as 1.85 million tons.  Record production in the face of weak demand suggests inventories must be rising.

Carmakers have solved their inventory problems by forcing dealers to take autos they cannot sell.  Inventories at the dealers in the first six months of the year increased 900,000 units.  These retailers are now carrying 2.2 million cars in their showrooms.  Even with dealers taking unneeded cars, the manufacturers are operating at around 65% of capacity when 80% is thought to be the breakeven point.  Eventually, the automakers will have to slam on the brakes: retail sales of cars are probably declining at this moment.

And why do we not know for sure?  Censors have stopped the release of statistics on car registrations, and fictitious reporting has hidden the size of the inventory buildup across China’s manufacturing sector.  Yet government statisticians were unmasked by the HSBC Flash PMI.  The inventory buildup this month was the fastest ever recorded by the survey, which began in April 2004.

Anyone who thinks the slowdown in China will not affect growth and corporate earnings in the U.S. and elsewhere is, well, should we say,  smoking crack.

Chang does note, however,  because of government “can kicking” (sorry about that)  the inventory buildup,  imbalances and disequilibrium in China’s economy can go on longer than many think it can,

Censors have stopped the release of statistics on car registrations, and fictitious reporting has hidden the size of the inventory buildup across China’s manufacturing sector.  Yet government statisticians were unmasked by the HSBC Flash PMI.  The inventory buildup this month was the fastest ever recorded by the survey, which began in April 2004.

In free-market economies, the sustained rise of inventories is a prelude to recession.  In China, on the other hand, inventory accumulation can go on for years before it negatively affects growth.

The Shanghai Composite stock index is not fooled, however,  and continues its swan dive.

As markets pin their hopes on the Magic Draghi of the West it would behoove traders and investors to keep a close eye on the Dragon of the East.   The shock of a shrinking China and unstable political economy would be the tipping point for the global economy.

Category: Investing, Markets, Think Tank

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

9 Responses to “Sweet & Sour Channel Stuffing + the Shanghai Swan Dive”

  1. NoKidding says:

    Almost all of the losses (and gains) nowadays happen overnight. There is no behooving to when stops get bypassed in the wee hours. Place your bets, but you better guess right or else.

  2. Global Eyes says:

    It always comes from somewhere unexpected: inventory overhang as reason for global recovery. In their attempt to remove their glut, China might export goods at low prices thus increasing economic velocity and generating global goodwill. This could aid inflation and weaken deflationary expectations prompting money to move.

  3. A says:

    The practice of lying is a universal truth.

  4. barbacoa666 says:

    So, it seems like the correct course of action is the following:
    1. Dump commodities
    2. Assume US gummint will pay borrowers even lower interest rates
    3. Consumer prices will drop

    I would like to think that this will be a positive for the US economy. But the reality is that manufacturing and energy are likely to suffer. But maybe homebuying demand will rise?

  5. dream-king says:

    Something that’s always puzzled me is – how do people in the business evaluate the relevance of Chinese government stats? I mean, why trust ANY of their stats ever? I can understand if you can cross-reference another input or other indirect consequence like car registrations, but why trust those numbers ever? Is it that the Chinese government is incapable of falsifying a majority of stats simultaneously? The value of having someone on the inside, I can imagine, becomes invaluable, but why bother ever reporting their stats as something worth talking about in serious tones? I know there’s insane amounts of money involved, but it seems that most media outlets barely throw in a disclaimer twice a year across all their China stories. Am I too naive as to imagine an opportunity for the financial community to mock the Chinese government into publishing accurate stats?

    Any insight would be appreciated.

  6. gman says:

    How does this make the Republican economic establishment look….after 4 years of moaning about looming hyperinflation? Maybe another big leg down for prices encouraged by the action out of china?
    Zimbabwe has a black president and had rampant inflation and the US also has a black president?
    They hyperinflation will show up with the Iraq wmds?
    Ryan “that brilliant policy wonk” wants to bring back what economists in both the tradition of Friedman and Keynes would consider a barberous relic of the past in the gold standard, which is certain to make the problems outlined in this piece much worse.

  7. Cassandrabelle says:

    I agree with dream king; how are any stats out of China relevant when everyone knows they are lies?

    Why even bother discussing China, except to say that it’s always far worse than China tells the world. Is that our takeaway?

  8. bear_in_mind says:

    Well, contrary to a number of commentators, I believe it’s worthwhile to try to quantify the social and economic health of the most populous country on the planet. Whether China “lies” or “cooks the books” is almost beside the point. Is this globalized network of exchange, they can’t control all the data or analysis, so even if the initial stats are ‘squishy’, the pros need merely follow the trends.


    BR: I am continuously astounded by the easy acceptance of false statements as a matter of course.


  9. dream-king says:

    @Bear_in_mind – I went out of my way to be clear that I thought the pursuit of a picture of China’s economic functions was worthwhile. I just don’t understand why is, at least, not every other reference to a Chinese government stat not asterisked or ‘rated’ for reliability/likelihood? It’s dishonest, and definitely not ‘besides the point’. People seem to be earning their bread whether or not they put in the sweat for as-accurate-as-possible quantification, so why bother I guess.

    If the answer is, essentially, ‘they can’t lie about everything all the time”, that’s fair enough – as far as that goes Trends are fine and all, and I’ve read how people have been clever in trying to cross reference seemingly unrelated stats to suss out a better picture, but generally they’re still just relying on other Chinese government stats. When you’re that far out on the limb, trends aside, you would think more people would be up their caution and not try to brazen it out an appearance of expertise and reliability.