A China Bubble?

Has China's incredible defiance of the financial crisis been a bubble?

For some analysts the answer is yes.

Here is Bloomberg's Chart of the day, ``Rallies in commodity prices and mining-company shares stem from a “bubble of belief” in China’s economy that is likely to burst, according to Albert Edwards, a strategist at Societe Generale.

``“I believe we will look back on the Chinese economic miracle as the sickest joke yet played on investors,” Edwards wrote yesterday in a report. To support his argument, he cited falling earnings at the country’s industrial companies.

``The CHART OF THE DAY shows year-over-year percentage changes in profits, as compiled by China’s National Bureau of Statistics. The chart combines monthly data from 2005 and 2006 with a quarterly index, started in 2007, that tracks companies in 22 provinces. This quarter’s report is set for June 26.

``Commodity prices climbed 21 percent this year through yesterday, according to the UBS Bloomberg Constant Maturity Commodity Index. Mining stocks paced a 23 percent gain in the MSCI World Materials Index, the year’s top performer among 10 industry groups in the MSCI World Index.

``While the Chinese economy expanded 6.1 percent in the first quarter from a year earlier, Edwards wrote that he was skeptical about its ability to sustain that level of growth during a global recession."

“The bullish group-think on China is just as vulnerable to massive disappointment as any other extreme example of bubble- nonsense I have seen over the last two decades,” his report said. “The fall to earth will be equally as shocking.”

The Shanghai index has been up about 66% from the 2008 troughs.

Chart from World Bank

Our view is that while China's booming economy may have evinced some signs of bubble blowing, as shown by the exploding loan growth, mostly in response to government fiscal and monetary actions, it seems unclear that this bubble will implode anytime soon.

So far China's boom has clearly been engineered by government stimulus as shown by the massive growth in government Fixed Asset investments (FAI)...

And the apparent impact has been a resilience in consumer income and spending as shown above.

The idea of a "China bubble" shouldn't be confined only to China, because China has the capacity to absorb more debt considering its high savings and low systemic leverage.

Instead "bubble dynamics" should be seen applied to generally most OECD and key emerging nations as governments collectively had been printing money to get around this crisis.

Chart from Danske

Moreover, the recent commodity boom isn't largely tied to an "economic boom" but rather China's tacit desire to diversify away its US dollar holdings from US government's attempt to inflate away its overindebtedness problem.

Bubbles, which actually represent business cycles shaped by government policies, can last longer than what mainstream experts project.

Besides, governments around the world, considering their adopted economic ideology, will probably continue to pump money to sustain price levels.

We see the next bubble to be a government debt bubble which would probably be vented mainly on the currency markets.

Remember, it seems more than just traditional "demand and supply" at work. It appears that "inflation dynamics" have been growing a far larger influence in today's world.