China’s Ponzi Scheme Economy

By: Sam Vaknin

When COVID-19 struck, China’s exports plummeted by 17.2% (January-February 2020 figures). In July 2023, they fell off a cliff, down by 14.5% on the heels of a 12% year on year drop in June and an almost uninterrupted string of similarly dismal figures since October 2022. Exports to China’s biggest destination, the USA, dropped by a whopping 23%.

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This shocked everyone: China has removed its pandemic-related growth-stifling measures at the end of 2022.

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Inflation and looming recessions in its target markets coupled with a tripling of benchmark interest rates within one year have all conspired to take a bite out of China’s only path to prosperity: exports. Imports shrank by 12.4% in July as orders for Chinese finished goods dried up and domestic demand declined sharply.

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All told, China’s growth rate was a measly and unprecedented 0.8% in the second quarter of 2023. Youth unemployment is at 20%. The property sector is teetering on the verge of a meltdown with housing projects uncompleted and mortgage strikes.

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The Chinese leadership is convulsing: rapidfire interest rate cuts by the central bank follow on the heels of delirious stimulus plans released frantically by China’s State Council. Growth is projected to be an increasingly unlikely 5% this year, a disenchanting figure even so.

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There is very little room for stimulus spending or tax cuts in the wake of the massive public outlays during the pandemic.

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Over the past 15 years, mounting sovereign debts crises in Europe and an anemic rebound in America's economy were more than offset by the emergence of Asia – and, in particular China and India - as a global powerhouse.

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Yet, the warning signs were there: China's economic "miracle" has long been based on an artificial rate of exchange for its currency, the Yuan (RMB); on unsustainable dollops of government largesse and monetary quantitative easing which led to the emergence of asset bubbles (mainly in real-estate) and to pernicious inflation; and, frankly, on heavily-redacted statistics.

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Real wages have been declining in China for quite a few years now as rural folk moved to burgeoning cities, bad loans proliferated, and consumption remained subdued as savings rates reached malignant, self-defeating levels.

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In an effort to sanitize humungous export proceeds, China amassed trillions of dollars’ worth of foreign exchange reserves, mostly invested in American treasury bonds, creating a dangerous exposure to the vicissitudes of the increasingly-more decrepit US dollar and to America’s downgraded sovereign credit rating.

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The Chinese authorities' attempts to clamp down on rampant speculation and price gouging are too little, too late, not to say irrelevant. The economy will screech to a shuddering halt in the mother of all hard landings. The Chinese house of cards and hall of mirrors will collapse ominously and swiftly.

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This will bring the entire global economic edifice into disarray with mounting imbalances and increased risk-aversion among investors. The second phase of this oncoming global crisis will resemble closely the Great Depression with massive write-offs in the values of equities, across-the-board crumbling of entire banking systems, and mounting, two-digit, unemployment rates everywhere.

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How to reconcile this doomsday prognosis with China’s uninterrupted string of decades of stellar (often two-digit) annual growth figures?

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By seeing China for what it is: the world’s greatest-ever Ponzi scheme. Behind the hype, spin, propaganda, and outright confabulations, China’s economic miracle is founded in its entirety on a simple premise, a breathtakingly audacious prestidigitation: a large (equal to two-fifths of GDP) and steadily soaring balance of payments (current account) surplus (mainly with the USA, its addict-partner in this danse macabre) serves to disguise and directly underwrite the fetid outcomes of an all-pervasive state.

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These include a mountain-range of rotting credits in the state-owned banks and local government; neglected sectors of the lopsided economy; and egregiously misallocated economic resources (mainly in the construction and retail sectors and via huge stimulus packages.)

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In many countries government spending translates into GDP “growth” – but China is a special case: most of the seemingly inexorable mushrooming of its GDP had been faked this way in 2007-9, for example.

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Indeed, it is China’s very dependence on a weary and wary US consumer which spells its doom when the American music stops. Once it does, China’s investment-driven economy will revert to crippling overinvestment, overcapacity, hidden unemployment and underemployment. In one word: history’s worst deflation (or, worse yet, stagflation.)

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We have seen it all before with Japan. The only difference being that Japan had a real and thriving private sector while China doesn’t: its “private” sector – albeit officially accounting for three-fourths of its GDP - is mostly foreign-owned, export-oriented, or immersed in non-productive operations (read: speculation.)

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Large swathes of China’s economy – including and especially the mission-critical financial sector - are in the incompetent and venal hands of China’s decidedly uncivil service and are “managed” (mismanaged rather) by bumbling and provincial party apparatchiks.

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To this toxic brew one should add a devastated environment, a dysfunctional judicial system, shoddy accounting practices (including by Western multinationals), stunted capital markets, an obliterated countryside and dying agriculture, and a demographic time bomb: owing to the “one child” policy, China’s population is ageing faster than any other major country’s. This is not to mention political risk in an age of Facebook-driven Tweeted revolutions. Hong Kong was just the harbinger.

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Sam Vaknin, Ph.D. is a former economic advisor to governments (Nigeria, Sierra Leone, North Macedonia), served as the editor in chief of “Global Politician” and as a columnist in various print and international media including “Central Europe Review” and United Press International (UPI). He taught psychology and finance in various academic institutions in several countries (https://www.narcissistic-abuse.com/cv.html )