Malkiel remains a bull as bears focus on China

Renowned American economist and writer Burton Malkiel has dismissed fears that the Chinese economy may falter and says he expects China to continue to grow strongly for at least a decade.

The Princeton professor and author of the seminal finance text, “A Random Walk Down Wall Street”, describes himself as bullish on China and says the country’s underlying economic fundamentals remain robust.

Despite rising concerns about inflation and conjecture that Chinese government’s attempts to reign in their economy may lead to a so-called “hard landing”, Malkiel forecast China’s economy will experience strong growth when many developed world economies will struggle.

“I am not telling you that China doesn’t have problems, it does have some problems,” Malkiel told a recent IndexUniverse’s China In–Depth Webinar.

“But even if some real estate markets are over-extended, as they may well be, calling for a collapse is wrong and is very unlikely. Economic growth will inevitably slow, you can’t keep growing at 10 per cent a year but it will continue growing at high single digits for at least a decade.”

Malkiel has been a long-time supporter of investing in China and is the chief investment officer of AlphaShares, which has created a number of China-focused ETF products it promotes to investors.

Many analysts which have a negative outlook for China say its export and investment driven economy will be hit by continuing weak demand in the developed world for its cheap manufactured consumer products.

While acknowledging growth will slow, Malkiel believes the Chinese government will be able to restructure its economy to boost domestic consumption levels.

Malkiel took the opportunity to debunk what he saw as the key China bear arguments: that massive increases in bank lending had led to asset price bubbles; that over investment had led to enormous overcapacity and the Chinese economic model was fundamentally unstable and unsustainable.

Malkiel says that, despite the Chinese government prime pumping its economy with a more than $800 billion stimulus package, its levels of bank and government debt were still low.

China has more than $3 trillion in foreign reserves and reports its government debt-to-GDP ratio as 17 per cent.

Malkiel said concerns about bank debt and the number of bad loans were also overblown, with the government ready to inject funds into any bank that found itself in trouble.

“Even if you simply assume all the bank debt is government debt, and I think that is probably not a bad way to think of it, China debt-to-GDP ratio is still just 30 per cent, much less than the US at around 90 per cent, Greece at 150 per cent and Japan at more than 200 per cent.” he says.

The recent interest rates hike and the lifting of the minimum reserve requirements for banks five times in the last six months indicated the Chinese government is in control of lending, Malkiel says.

Arguing that the Government needs to continue to promote strong growth policies to develop the centre and western parts of the country, Malkiel says it is common in high growth economies to have temporary excess capacity.

“You can have 20 per cent excess capacity in an 10 or 11 per cent growth economy and that is much less of a problem than the kind of excess capacity we have in the US which is a 2 per cent growth economy,” Malkiel says.

Government investment has been focused on infrastructure projects that would promote growth in these central and western regions, which will improve income distribution and lead to greater levels of consumption, according to Malkiel.

The Chinese government faces the difficult task of recalibrating its economy from being export and investment driven to a more sustainable consumption-led model.

This involves progress up the economic ladder from a low skill/low wage manufacturing driven economy to an economy with a greater number of higher paying service-sector jobs and greater levels of domestic consumption.

Many developing countries have typically stagnated attempting this difficult step in their economic progress.

Malkiel says there are already signs the Chinese government had been successful in creating more high quality jobs, particularly in the software and medical technology industries.

Describing consumption as “China’s ace up its sleeve” Malkiel says consumption represented just 30 per cent of GDP in China compared with 70 per cent in the United States.

He also dismissed views that there is a dangerous asset-price bubble forming in China’s real estate sector.

While acknowledging that price bubbles had formed in some real estate markets in China he says that these are much less dangerous because, unlike the US, debt levels in China are much lower.

Malkiel points to consumer debt levels — which show Chinese consumers have 34 cents of debt for every dollar of disposable income compared to $1.30 of debt for every dollar for consumers in the United States — as evidence Chinese consumer is far less leveraged than their US counterparts.

For investors looking to gain exposure to China, Malkiel also pointed to indicators Chinese equities were still good value, despite concerns among investors that equity prices were expensive.

“In terms of a bubble in equity prices there is no evidence that equity prices are too high,” he says.

“On the Guggenheim/AlphaShares All Cap ETF Yao you have a 15 price earnings multiple and on the small caps now it’s 13 times and so the price/earnings to growth (PEG) ratios are extremely moderate……. I am not a market timer but it certainly gives people an opportunity to get in at reasonable multiples.”