Investors Are in Denial About China
As you've no doubt noticed, companies and investors around the world are feeling the pain of China's economic slowdown. They're worried about all the layoffs, cuts to surplus capacity and deleveraging to come on the mainland, which will further depress demand. The natural temptation is to blame China for the world's woes. But outsiders should focus just as much on their own missteps -- starting with the widespread misperception that "this time" would be different.
Back in 2009, as China unleashed a massive fiscal stimulus and investment spree in response to the global financial crisis, the rest of the world was all too willing to believe the impossible. Aided by consultant research predicting decades of explosive growth, companies placed huge bets on China and expected to ride the never-ending boom to riches.
Amid the gold rush, they bulked up to sell China t-shirts or tons of iron ore. They urged their governments to sign free-trade deals with Beijing. Commodity producers heedlessly expanded capacity, believing that 10 percent growth would continue indefinitely. Consumer brands rushed to set up flagships in third-tier Chinese cities. Shipping companies scrambled to build new fleets to meet an expected explosion in global trade.
However, as with so many previous bouts of irrational exuberance, this time wasn't really different. The ruthless rules of supply and demand still applied. And now, the longer that painful decisions are delayed, the harder they'll become.
Commodities firms, in particular, are learning that lesson the hard way. As prices rose with Chinese demand, they made large upfront investments financed by borrowing -- often on a 20-year timeline, in the expectation that growth would last and last. Now, with China's economy slowing and the prices of everything from oil to metals plummeting, the bills are coming due.
Major iron ore firms, which had predicted that Chinese steel demand would keep rising until about 2030, are now looking at substantial overinvestment and deteriorating credit. Dairy farmers, who increased their herds with future Chinese consumer demand in mind, are feeling the pinch as milk prices plunge.
After years of ramping up production to fuel China's expected growth, oil-producing countries from Saudi Arabia to Norway are facing grim decisions about their public finances. Russia is rapidly draining its sovereign wealth fund. Venezuela is pleading with China for loans -- on top of the nearly $60 billion already doled out -- to stave off collapse. Pundits are warning that the large debt load of U.S. shale-gas and oil producers could pose greater risks than sub-prime lending did a decade ago.
No less so than China, the rest of the world needs to face up to some new realities.
First, the golden age of Chinese construction is over. There's now enormous surplus capacity in virtually every industry that requires fixed-asset investment. Companies can no longer rely on the "Beijing put" of new government stimulus to boost growth. Iron ore producers and copper miners all need to begin a painful process of downsizing and deleveraging -- just as China's bloated state-owned enterprises do. Producers around the world haven't faced up to the new normal.
Second, companies of all stripes have to put in the effort to understand China better. Expectations of double-digit growth, regardless of how poor the performance, have vanished. Luxury brands that once hoped their Beijing flagships would smooth the balance sheets at European headquarters need to recognize that different markets require different strategies, and that shops in China won't run on autopilot. They need to compete.
Third, companies and countries alike need to face up to their own irrational exuberance. Whether it's failing to diversify, spending recklessly on the back of high prices, or taking on too much debt, fundamental mistakes can't be blamed on China. Doing so only delays the inevitable.
Few investors seem to fully appreciate the balance-sheet reckoning that is coming. Failing to address the global supply glut only increases the risk of a larger correction. We know that because this time isn't different: The bill always comes due.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
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