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Drop in Chinese Stocks Does Not Equal a Weak Economy: Karabell

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For the first time in ten months Chinese PMI data, released today by HSBC, shows contraction. The Composite Output Index came in at 49.8, down from May’s 50.9 and just below the “no-change line” of 50. The number was dragged below the line by manufacturing, as the service portion of the data came in at 51.3.

Could this and recent troubles in Chinese stock markets be the beginning of the slowdown everyone has been waiting for from the world’s second largest economy? Zach Karabell, president of River Twice Research, says there’s an important distinction to be made. “Markets and real-world economies are cousins. They rhyme, but they are not coincidental. They’re not the same thing,” he says. So as the world watches the Shanghai composite plummet, for instance, Karabell argues it is not an indication that China’s economy is in trouble.

“China's stock market has been terrible throughout this time because people don't get the fact that Shanghai is a regional, ill-liquid, crappy market that people essentially speculate in,” Karabell argues. “It's not a proxy for the China economy.”

While China bears may be counting the money they have made shorting those commodities, the fall does have a meaningful impact on other emerging markets that depend on China, especially those in Latin America. But Karabell thinks the fears of "the sky is falling," even in those countries, may be oversold.

“Commodity prices really collapsing would be a problem for those countries, but even commodity prices are high relative to what they were in the 1990s,” Karabell says. “They're lower than they were in the mid-2000s, but China's demand for those things — while it is no longer growing at an accelerated rate — is still at a much higher gross level. So it’s much more an issue for mining companies that have invested tens of millions of dollars on presumptive projects.”

Back on mainland China, the head of River Twice says the real story for China's economy might be its continued shift, slow as it may be, away from an infrastructure and export to one focused on domestic consumption.

“It's not going to happen like a switch,” Karabell suggests. “You're not gonna get from 65% infrastructure and export to 65% people going to Kentucky Fried Chicken and buying Nike overnight. That is a transition. And the question is, do you believe that transition is possible? I happen to believe it is possible.”

While the transition won’t happen overnight, Karabell does think that China can break from the historical narrative and do it in record time — namely in about 10 years.

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