Chinese Whispers

In 2007, over copious quantities of beer, a couple of friends and I were having a discussion on China. I’m about as cynical as a patron is to his shaman but I found one flippant statement made by my friend to be ridiculous at best. He boldly stated that China’s entire manufacturing economy was built on slavery! That day, the naive 22-year-old in me realized two things. One was that people will absolutely lap up any argument that is reductionist. That probably explains why we flock to watch Arnab Goswami! Second, was that as Indians, we absolutely loved to attribute someone else’s success to chicanery.

While I didn’t have a clue about the subject of China, I decided to take a closer look and understand why they achieved unparalleled success over the past three decades. However, my rather primitive reptilian brain took its toll and I ended up postponing this rather trivial pursuit for nine years. In the meanwhile, the news from China was rather worrying. After all, throughout my lifetime, China’s success has been universally taken for granted, much like idlis at Brahmin’s Coffee Bar and booze at Brigade Fuel. Starting July 2015, the Shanghai Composite Index lost 40% of its value and western commentators started to froth in the mouth much like Mr. Goswami. These commentators lauded Chinese doomsday prophets such as Jim Chanos whose hedge fund has been sceptical about China’s successes right from 2009.

The Cynic

Jim Chanos is an interesting guy. His investing strategy is the mirror image of that of Warren Buffet. While Buffet believes in holding on to companies whose fundamentals are strong, Chanos is more like that pessimistic televangelist who builds a bomb shelter in a Siberian gulag. To put things simply, Buffet hopes that the stocks he invests in will rise in value while Chanos hopes that the stocks he shorts go down in value. In other words, Jim Chanos is like the fashion photographer who attends events hoping for a wardrobe malfunction. In 2009, Chanos asked his analysts a simple question. While I was not a party to that discussion, this is probably what he asked. “Why the fuck am I paying so much for gas, cement, and all other commodities when everyone is hiding money under the mattress?”. In short, Chanos wondered who was willing to pay such a high price for certain commodities when people weren’t even ready to trust their own mothers with their money. His analysts decided to train their eyes on the dragon that resided at the eastern end of the Eurasian world island. China!

One statistic that caught Jim Chanos’ eye was about China’s burgeoning real estate industry. As a Real Estate industry practitioner myself, I have encountered a plethora of shady folks, but it seems like this industry globally attracts pond scum like stagnant water. The statistic that Chanos referred to was that China had 5.6 billion square meters of real estate under development back in 2009! As recently as September 2015, the figures have been revised to 10.6 billion square meters under development. Now how do I put this into perspective? Let us assume that the average (ok, well off) family in urban India stays in an apartment which is 1650 sft which translates to 150 sqm. That is enough space to house 282 million individuals. Five years ago, Chanos’ estimate put it at enough space for a 5'x5' cubicle for every man, woman, and child in China. But it’s China! The technocrats they have in administrative circles probably know what they are doing, one might wonder. Since finding statistics on occupancy rates in new developments in China is akin to finding a chastity belt on a Led Zeppelin groupie, I’ll have to resort to finding anecdotal evidence.

The Symptom

One of the many pitfalls of Mao’s cultural revolution was the destruction of China’s priceless and peerless history. You can read more about it here. https://uosm2018.wordpress.com/2013/02/26/cultural-revolution-and-its-aftermath/. The tragedy of this revolution was that China, after Mao’s death, looked westward not only for economic solutions but also for a cultural anchor. The result of this trend has been the glorification of western values and culture to the point of absurdity. Legions of Caucasian men and women thrive as charlatans in modern China purely because the white man/woman’s word is taken as gospel truth. For example, out of work ‘white’ actors attend medical conferences as keynote speakers, talk about complex subjects in modern medicine by lifting content straight out of Wikipedia and are paid handsomely for their performances. From a real estate person’s perspective, the worship of the west is even more pronounced. There are 11 different fake European towns and landmarks in China. The city of Paris has a replica in Tianducheng replete with the Eiffel Tower, the Arc de Triomphe and the Louvre. Other cities which have had the honour of being replicated include Florence and Halstatt. There are replicas of the London Bridge, Château de Maisons-Laffitte, Pont Alexandre III, St. Peter’s Basilica and St. Marks Square. There is even a Thames Village. Fair enough, one might say! I don’t think any of us would mind living in a replica of a European town. Except, that no one lives in a majority of these cities!

By some estimates, there are over 20 ghost cities in near the eastern seaboard of China, each capable of housing over a million people. In one town, Ordos, which can hold an estimated 1 million residents, the city just houses 20,000 people. That is the equivalent of building a 10 storey apartment with 5 apartments on each floor, but only one family inhabits the entire complex. The privacy must be great but the local kitty parties must be diabolical. And what about the replica cities? These cities now perform one very useful function. People from across China come to click very flattering photos of themselves, often in wedding attire in front of these replicas. While I have no basis for making this statement, honeymoon photos taken in a deserted replica of a European capital may probably be far more ‘explicit’ than ones taken in front of prudish Caucasians. What is most odd about these deserted cities in China, however was that for the longest time, there were no shortage of buyers for this increasingly expensive real estate. Naysayers like Jim Chanos have derided the ambitious building plans of the Chinese and have pointed fingers at the crippling debts that realtors have been facing. The Chinese government, on the other hand, believe that new construction projects must carry on at the same pace and that they must prepare for the rapid urbanization of the country. The flurry of construction across the country has made some people joke that the national bird of China is the Construction Crane! This is one of those paradoxical situations where neither Chanos nor the Chinese government may be wholly right or wholly wrong and only time will tell whether the Government’s ambitious building plans may come the fruition or not. In my opinion, the larger question would be, where do Chinese citizens find the money to buy grossly expensive property even by global standards? And that too if they are not planning to live in these houses? To answer that, we will have to dive into the rather arcane world of linguistics.

The Savers

Keith Chen is an Associate Professor of Economics at the Anderson School of Management at UCLA. In 2013, he published his seminal work on the Effect of Language on Economic Behaviour and delivered some rather startling results. What he effectively proved was that languages that grammatically associate the future and the present, foster future-oriented behaviour. Now, what does that mean? Essentially what Dr. Chen said is that any language that requires you to make a grammatically different statement while speaking of a future event or making a prediction is a future-oriented language. For example “Man Utd will win tomorrow against Tottenham” is vastly different from “Man Utd wins against Tottenham “. It is impossible to say “Man Utd win against Tottenham tomorrow”. However, a statement like that in Chinese is perfectly acceptable and logical. The Chinese language doesn’t divide the time spectrum the way English forces speakers to do so. Now how does this affect economic behaviour? Strangely, speakers of languages that do not separate the future from the present (like Mandarin Chinese), feel that the future is viscerally connected to the present and hence tend to put away more money in savings. Speakers of future-oriented languages like English, on the other hand, tend to literally divorce the future from the present and consequently, tend to save less. Dr. Chen was able to conclusively prove that while keeping all other factors constant, the primary language that one spoke makes a massive difference in one’s economic behaviour, especially when you look at saving for the future.

According to the World Bank, China’s households, businesses, and government save nearly 51% of GDP. The Americans, on the other hand, save only around 17%. Chinese families have historically saved a large proportion of their income and they have accelerated the process after liberalization in 1978 because a number of them feel that there isn’t an adequate social security net which will help them as they grow old. In 2003, Wen Jiabao allowed cheap credit for the construction and purchase of property while making other savings instruments less attractive. Chinese families found that investing in real estate was far more attractive than keeping the money idle in banks. While I have no empirical proof, I believe that the obsession with property is a global affliction that makes otherwise sane people believe that property investments will always appreciate. And while property investments can sometimes lead to fabulous returns, property investments are fundamentally illiquid and thus when panic ensues, these investments can crash dramatically.

Based on all the evidence that has been presented in this article, the smart money would probably be leaning toward a sub-prime mortgage crisis like scenario. However, a bet against the Chinese economy is akin to a bet against the very same Chinese government that engineered probably one of the greatest economic miracles in recorded history. Only time will tell whether the government’s strategy of razing the countryside and building cities which are yet to find inhabitants is an example of supreme foresight or extreme folly!

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