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China's New 'Great Wall' Built on Easy Money, Speculation and Toxic Debt

Posted Jul 28, 2009 07:30am EDT by Aaron Task in Investing
Related: FXI, FXP, RTP, PGJ, XPP, TAO, EEM
China's GDP growth and stock market are the envy of the developed world. But recent events stand in stark contrast to the "strong, prosperous and successful" China that President Obama described at the opening of this week's strategic economic dialogue.

The arrest of Rio Tinto employees after negotiations over iron ore prices broke down is a sign of China caring less about its reputation in global economic circles, says William Gamble, president of Emerging Market Strategies, a consulting firm.

"They're saying ‘our economy is so strong, maybe we don't this anymore,'" Gamble says. "'We don't need foreign business. We can establish our rules and not worry so much about our reputation.'"

Meanwhile, the murder of a steel executive and rioting in various parts of the world's most populous nation suggest internal tensions that belie China's external projections of strength. 

Because policymakers are pumping money like mad to prevent unemployment and social unrest,  Gamble believes China's economy may very well be a bubble set to burst. With $1.2 trillion of new loans made since November there's "basically a wall of money that's not going anywhere," Gamble says, suggesting real estate speculation and bad lending are rampant.

Indeed, The FT reports Monday that "Chinese regulators ordered banks to ensure unprecedented volumes of new loans are channelled into the real economy and not diverted into equity or real estate markets where officials say fresh asset bubbles are forming."

Because the economy is state-controlled, the ruling Communist Party "might be able to avoid a crash [but] if you make bad economic policy you have to pay for it sometime down the road," he says.

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