Austrian economics has slowly but surely been spreading into the mainstream.
From the Wall Street Journal (hat tip Bob Wenzel)
China is a poster child for the Austrian school of economics' theory of the business cycle. After undertaking the biggest stimulus program the world has ever seen in response to the global financial crisis, the country is drowning in unproductive investments financed with credit.
The government spent 15% of GDP largely on public works projects in inland regions, financed with loans from the state-owned banks. Investment as a share of GDP soared to 48.5% in 2010, and the M2 measure of money supply ballooned to 140% that of the U.S.
Now comes the hangover. The public works projects are winding down, unleashing a wave of unemployment and an uptick in social unrest. The banks' nonperforming loans are rising, and local governments are insolvent. The country is littered with luxurious county government offices, ghost cities of empty apartment blocks, unsafe high-speed rail lines and crumbling highways to nowhere.
One effect of negative real interest rates was a nationwide bubble in private housing, with the average price of an urban apartment reaching eight times the average annual income. Real estate is the most popular investment for the wealthy, according to a central bank survey in September. Millions of luxury apartments are vacant, even as there is a shortage of affordable housing for the poor.
Property construction became "the most important sector in the universe," in the words of UBS economist Jonathan Anderson. It directly accounts for about 13% of the economy, 20% if one includes related industries like concrete and steel. It also provided 40% of local government revenues through land sales.
Worsening inflation forced the government to put on the brakes this year. As with most property busts, transactions dried up, followed by a free fall in prices. Land prices were down 60% year on year in September. Property developers are slashing prices of new homes to stave off bankruptcy.
Beijing recognizes the dangers of a property bubble and deliberately popped this one by telling banks to cut back loans to developers. The government seems to be determined to force some of the smaller developers to the wall, both to force consolidation in the industry and convince the remaining developers to get on board with the state-run program of building low-income housing.
Earlier this year banking regulators conducted stress tests that supposedly showed the financial system can withstand a 40% fall in property prices. Loans to developers and mortgages account for about 20% of the banks' loan books. But since the health of the wider economy is tied to property, China could face a scenario close to that of the U.S. in recent years. Because the private market for housing was tiny 10 years ago when the current boom began, the country has never experienced a broad-based decline in property prices.
The government and the more sanguine analysts say low-income housing construction will pick up the economic slack, as activity at the top end of the market contracts. The problem is that even if the government meets its goals, the program is still too small to save the economy. Barclays estimates that it will contribute one percentage point to growth in 2011, and 0.5 percentage points in 2012.
There is no easy way to avoid the bust that is coming. The silver lining is that China's increasingly state-led growth model will be discredited, and a debate will begin on restarting the reforms that stalled in the mid-2000s. A financial sector that allocates credit based on politics rather than price signals led China into this mess. Popular pressure to dismantle crony capitalism is building, and the Communist Party would be wise to get in front of it while it can.
Anyway I have dealt with how China's bubble seems playing right into the Austrian Business Cycle here
Yet Austrian economics gaining mainstream's attention seems another case of Gandhi’s rule:
First they ignore you, then they laugh at you, then they fight you, then you win
Commonsense economics finally gaining ground.
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