By William Pesek
The staying power of AMC’s “The Walking Dead” with Chinese viewers is a wonder to behold. The most watched U.S. show in China even has mainlanders flocking to California for the July 4 opening of Universal Studios Hollywood’s newest attraction: a walk-through park that lets you act the part of post-apocalyptic survivor fleeing the flesh-eating undead.
Soon enough, though, China’s 1.4 billion people may be able to get their zombie fix at home, where the government is staging the economic equivalent of their favorite TV experience. That’s because President Xi Jinping’s pledge to breathe new life into a staggering growth model faces its own untimely death (adding to the world’s grief over the U.K. exiting the European Union).
The first real sign of China’s zombification was Beijing’s failure to attack overcapacity in industries ranging from shipbuilding to steel to mining to cement. In March, theFinancial Times provoked anger in Beijing with its “China’s State-Owned Zombie Economy” headline, along with many others in the foreign media. The second hint came in April, when Xi’s government rolled out plans for a Japan-like debt-to-equity swap program. The International Monetary Fund pounced, warning that securitizing loans might “worsen the problem” by supporting “zombie” companies better off disappearing.
Now comes indications of a stealth effort to boost stimulus to hit this year’s 6.5% growth target, even as Xi insists he’s tackling the excesses imperiling China’s future. Officially, Beijing’s fiscal deficit including off-balance sheet items will be about 3% this year. Economists at UBS and elsewhere now say it’s higher than 10%. In other words, the invisible hand of the state is playing an increasing role in an economy Xi claims to be turning over to the private sector and market forces, deadening China’s animal spirits.
These behind-the-curtain shenanigans mean the Zhu Rongji moment investors crave to rebalance growth engines isn’t afoot. China’s premier from 1998 to 2003 shook up the state sector as rarely before, shuttering lifeless enterprises and killing more than 40 million jobs. Xi needs to pull off an even bigger feat if he’s going resurrect a reform process that’s had few obvious successes.
The odds of such a shock are dwindling as Beijing circles the wagons, even corralling one of Zhu’s most famous disciples - central bank Governor Zhou Xiaochuan. The People’s Bank of China is at the center of efforts to convert debt into equity. While it appears to make sense in the short run, it means China’s weakest links can ramp up bond issuance, adding to a debt-to-gross-domestic-product ratio already heading in Japan’s direction.
This, say analysts at Zero Hedge, amounts to the “biggest shadow nationalization in history, one which will convert trillions in bad loans in insolvent enterprises into trillions in equity investments in the same enterprises, however without any new money actually coming in! Which means it will be up to new credit investors to prop up these failing businesses for a few more quarters before the reorganized equity also has to be wiped out.” Hence, their characterization of this as a “deus ex machina,” or God from the machine, move.
Japan spent 15 years trying to engineer its own miraculous ending. Only in the early 2000s did banks come clean about the magnitude of their bad loan woes and begin writing them down. Thanks to that delay, however, it’s still wracked by deflation, stagnant wages and sub-zero interest rates. Shinzo Abe’s government is the 16th to try to revive Japan’s own zombified economy since 2000, and the IMF just told Tokyo to “reload” its reform guns yet again.
China’s biggest problem is transparency. Just as with Japan back then, no one knows the real number of distressed Chinese loans at the corporate, provincial or national government levels. And then there’s a shadow-banking monster than makes America’s mortgage bubble of the mid-2000s look quaint by comparison. The best private-sector analysts like Charlene Chu of Autonomous Research can surmise is that a multi-trillion dollar bailout of coming. China is, of course, too big to fail, but it also may be too big to save. Which is why the global economy has much riding on Xi’s team addressing its debt troubles, not papering over them with new loans.
Here’s where life is imitating art. Just as “The Walking Dead” characters never know how many zombies lurk in the shadows, overseas governments and investors alike haven’t a clue about the scale of China’s corporate undead problem. The same goes for where Xi’s restructuring pledges are real or hype. It means that just like Rick Grimes, Glenn Rhee and the rest of TV’s shows characters, the world won’t know the size or lethality of any China shock until it’s too late.
Beijing is finding ever more creative ways to keep its bubbles from imploding. That includes using the state players Xi claims to be taming to prop up excesses in the private sector. “The boom and bust in housing and heavy industry was driven by private companies responding to market incentives of high prices and surging demand,” says Andrew Batson of Gavekal Dragonomics. “After the boom ended, the government has repeatedly used SOEs to try to keep growth going.” The bottom line on SOEs, he says, is that this pressure “makes them an ever-growing liability to the state.”
Not to mix my metaphors - and pop-culture references - but all Beijing’s unorthodox experiments layered one on top of the other make for the economic equivalent of a Frankenstein monster. Might its creators lose control? All we can do is hope not. But as Beijing gins up growth with mysterious doses of financial alchemy and constant reverse engineering, there’s ample reason to think China Inc.’s walking-dead creature could turn on its makers. And the rest of us.