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Is China's bubble bursting?

As bankruptcy-driven disappearances and suicides haunt Wenzhou, we check in with leading China debt expert Victor Shih.

China real estate bubble debt collapseEnlarge
A 19-floor commercial building is demolished by controled explosions on November 17, 2004 in Shanghai, China's financial hub, to make way for new development. (China Photos/Getty Images)

Editor's note: this article is part of our "Cracks in the Wall" series about the challenges facing China's economy.

BOSTON — China’s economic miracle is showing signs of faltering. Growth has slowed to 9.1 percent — still a ferocious pace for any normal country, but a relative slump for China. Meanwhile, the government has begun putting the brakes on lending, in an effort to tame inflation and avoid a serious bubble.

But now there’s evidence of real economic pain in China. In cities like Wenzhou, entrepreneurs have found themselves mired in debt — so hopelessly that some have gone into hiding or committed suicide.

To put the matter in perspective, we interviewed Dr. Victor Shih. An expert in Chinese politics and economy, Shih has been following the debt situation closely, and was among the first to warn of potential trouble ahead. An associate professor of political science at Northwestern University, Shih holds a Ph.D. in government from Harvard. (The interview has been condensed and edited by GlobalPost.)

GlobalPost: When we spoke over the summer, you warned that the public debt level in China -- including local and central governments, as well as state owned companies — held potentially staggering amounts of debt: between 80 and 150 percent of gross domestic product. At the low end, that's similar to France, which currently has a perfect credit score but is under pressure from ratings agencies. At the high end, it’s nearly as bad as Greece. Do you still stand by that assessment, and how have things changed over the past quarter?

Yes, the low end — 80 percent — would be government debt alone. If you include debt that state-owned companies hold that the government is potentially liable for, the number would approach 150 percent of gross domestic product.

There's been a slight improvement lately, in that the rate of increase in lending has slowed down a bit. Local governments are now having trouble borrowing from the banks. On the other hand, they are able to roll over existing debt. So non-performing loans in China remain low, because the central government has instructed banks to allow local governments — and I suspect a lot of state-owned enterprises — to roll over a lot of the existing debt.

Meaning that they get new loans to cover their old loans.

Shih: that's right.

We're hearing that business owners in Wenzhou are committing suicide or going into hiding because they cannot pay their creditors. Many have borrowed from relatives and friends, or used their homes as collateral, so they're in big trouble both financially and socially. One woman who allegedly borrowed $45 million has now vanished. The situation has gotten so bad that Premier Wen Jiaboa recently paid a visit.

Are these debt problems happening elsewhere, and is it the beginning of a bigger problem — like a bursting Chinese credit bubble?

It is a serious problem, but I don't think for the moment that it is a systemic problem. First, informal lending — by private individuals or unregulated credit companies to private companies or individuals — is still relatively small compared to China’s entire financial system. And of course, there are different estimates as to how large this informal lending is. It ranges from 5 trillion renminbi to 10 trillion renminbi ($786 billion to $1.52 trillion).

We have to remember that there is as much as 70 trillion renminbi ($11 trillion) in China's banks. Moreover, this kind of lending tends to be relatively local, so while a cross-regional contagion is not impossible, the scale is not likely to be very large.

Is there a point at which rolling over loans will no longer be possible, or is that not a risk, because China — as a centrally-planned economy — can simply print money?

That poses a problem to the economy. Of course when you print money — which not only China but the rest of the world is doing these days as a way to deal with financial difficulties — you can bail out financial institutions. However, China constantly enlarges its monetary base, and that causes persistent inflationary pressure.

So instead of having a steep crash in the financial system, residents and taxpayers in China have to pay for these financial difficulties through an inflation tax

http://www.globalpost.com/dispatch/news/regions/asia-pacific/china/111028/chinas-bubble-bursting