China's overcapacity may protect economy

China could strike it second time lucky. After surviving the world financial crisis with relative aplomb, mainland China markets may yet dodge the Dubai debt restructuring, unlike their more jittery Asian and European counterparts.

For it's not Dubai which is the source of trouble, it is China's own ‘problem of plenty' and the market's inability to predict which way policymakers would go.

On the other hand, the fate of Chinese bank stocks, which had been falling most of the week anyway, had little to do with the debt restructuring of Dubai World.

Investors in China have been dealing with their own set of anxieties.

Excess liquidity, industrial overcapacity and constant fear of the ‘asset bubble' bursting have unleashed a high level of uncertainty. Fear of tough measures by Beijing has spooked the markets.

The Shanghai Composite Index dropped more than 3 per cent in heavy trade last Thursday, led by banks, as some investors fled amid mounting worries that the government may take steps to clamp down on surging asset prices.

Clampdown

The selloff was across the board, ranging from blue chips such as financial and transportation firms to retailers.

Analysts said most investors are keen to book their profit now and exit before Beijing begins a serious clampdown.

However, the government put such fears to rest when late Friday, the Political Bureau of the Communist Party of China Central Committee declared that it will continue with its "proactive fiscal policy and moderately easy monetary policy" in 2010.

Investors in China who tend to follow every nuance and wording of government statements can take heart.

These are the same words the Politbureau used to describe its stimulus efforts early this year, which resulted in bank lending and capital expenditure growing by more than 30 per cent. With this, the government seems to have acted to keep its financial markets afloat.

The indication that Beijing will not exit from its stimulus strategy reinforces yet another danger. Yu Yongding, a prominent Chinese economist, put it succinctly last week, in Sydney.

"The very expansionary fiscal and monetary policies in China have succeeded in arresting a fall in growth. However, the medium-term and long-term impacts of the expansionary policies are worrying," he said. Overcapacity, bad loans and inefficient investment are bound to be the long-term effects of China's loose monetary policies.

Startling facts

These fears were reinforced last week when the European Union Chamber of Commerce in China and Roland Berger Strategy Consultants released a report, Overcapacity in China, highlighting some startling facts.

According to the report, China's excess industrial capacity is "wreaking far-reaching damage on the global economy," stoking trade tensions and raising the risk of bad loans.

The 4 trillion yuan (Dh2.15 trillion) stimulus package is worsening overcapacity, especially in the steel, aluminum, cement, chemical, refining and wind-power equipment industries. The global crisis has throttled demand for exports from China at a time when even more investment is being pumped into adding unnecessary capacity.

The report suggests that China should let its undervalued yuan gradually appreciate and reduce "subsidy" for Chinese manufacturers, but Beijing has dismissed such recommendations. For the moment, it sees safety in capacity — rather overcapacity.

Suranjana Roy Bhattacharya is a freelance journalist