“Since 2007 savings have climbed from 50% of GDP to nearly 53% in 2010. During this time investment has climbed from just over 40% of GDP to nearly 49%.  The difference between the two has declined from just over 10% of GDP to just under 4%, and this of course is just another way to say that China’s current account surplus has dropped from just over 10% of GDP to just under 4%.” – Jack Crooks

CHINA REBALANCING: IS IT AN OXYMORON?

“The department [China’s Organization Department] is plagued by constant tension that bedevils most political systems. The Politburo has striven to professionalize the selection of top officials through the department, while undermining the process at the same time by fixing appointments in favor of loyalist and relatives. Powerful officials presiding over local fiefdoms have swept aside the rules even more crudely, establishing marketplaces in which government positions are bought and sold for huge financial gain.”  

– Richard McGregor, The Party: The secret world of China’s communist rulers

I got a bit of a chuckle out of IMF Chief Christine Lagarde. She recently praised China for its “rebalancing efforts.”  What a pain it must be to have to lie publicly on a regular basis in an effort to keep the key players agreeable so you can attempt to conduct coordinated global policy.      

There is a big gap between Ms. Lagarde’s public PR and reality when it comes to China’s “rebalancing.”  This if from Professor Michael Pettis’ latest missive [my emphasis]:  

China is not rebalancing and the decline in the surplus was driven wholly by external conditions.  In fact until 2010, and probably also in 2011, the imbalances have gotten worse, not better.  

For proof consider China’s total savings rate as a share of GDP relative to China’s total investment rate.  The current account surplus, of course, is equal to the excess of savings over investment – any excess savings must be exported, and by definition the current account surplus is exactly equal to the capital account deficit.  This is the standard accounting identity to which I have referred many times in my newsletters.  

The savings and investment numbers show that the last time investment exceeded savings was in 1993-94, and during that time China of course ran a current account deficit.  This was just before Beijing sharply devalued the RMB, after which it immediately began running a surplus, which has persisted for 17 years.  Since 2007 savings have climbed from 50% of GDP to nearly 53% in 2010. During this time investment has climbed from just over 40% of GDP to nearly 49%.  The difference between the two has declined from just over 10% of GDP to just under 4%, and this of course is just another way to say that China’s current account surplus has dropped from just over 10% of GDP to just under 4%.  

According to Dr. Pettis:  

• A declining savings rate in China would indicate consumption was rising; which is what everyone seems to want and Ms. Lagarde was likely hinting at.  A falling savings rate would indicate China would not be so highly dependent on investment and export growth.  This process would effectively represent a transfer of wealth back to the household sector i.e. Chinese consumers.

Guess what Ms. Largarde?  China’s savings rate is increasing, not declining.  This is the opposite of rebalancing.   

But many analysts point to the fact that China is pursuing policies to stimulate consumption.  Oh really?  Back to Dr. Pettis:  

Beijing is trying to increase the consumption share of GDP by subsidizing certain types of household consumption (white goods, cars), but since the subsidies are paid for indirectly by the household sector, the net effect is to take away with one hand what it offers with the other.  This is no way to increase consumption.  

Meanwhile investment continues to grow and, with it, debt continues to grow, and since the only way to manage all this debt is to continue repressing interest rates at the expense of household depositors, households have to increase their savings rates to make up the difference.  So national savings continue to rise.  

So why is the current account surplus declining if China’s consumption isn’t taking its place?  Investment continues to increase.  State Owned Industries (SOEs) still enjoy access to cheap credit (this is an effective subsidy by the household sector, i.e. transfer of wealth due to below-market interest rates on deposits; same thing happening in the US in order to subsidize the banking system).  But because SOEs have increased capacity so much in key industries, and profitability has vanished, they are using this cheap credit to move beyond their core businesses, i.e. increasing investment.  This is why many, including us, continue to warn about malinvestment and the hidden ticking debt bomb inside China’s financial system that will be a key reason why Chinese GDP numbers will continue to disappoint in the quarters ahead.     

Sure, we all got excited when Wen Jiabao (considered by the West to be in the “reform” camp)  and his eight other pals, who run China through the Politburo Standing Committee, jettisoned rising star princeling Bo Xilai, a ruthless climber who was quite happy with the current Chinese growth model.  To many, this very public purging indicates the reformers are in charge and a swift change in the Chinese model of export and investment dependence is now in play.   

Well, even if the so-called reformers are in charge, the transition to a consumption model, which by its very nature will require increased individual freedoms, will likely be a much slower process than we would wish for. Any transition will produce a lot of political blowback as the existing order protects its turf, and the Party itself has to worry about being marginalized if it allows its citizens to make their own decisions across the economic sphere.  

The point is this: we can’t expect China to be the engine of global growth given the export-cum-investment model is running out of gas.  And we can’t expect some type of overnight smooth transition to a domestic consumption-driven growth model to save the world.   

China may soon be heading down the right path. It seems they are; and I think that path will be to the economic benefit of all concerned.  But as always, the proof is in the pudding. 

GOLD – ACTION ALERT – BUY

Continue to look to take delivery of the physical metals on further weakness. The gold/silver snake is coiling. The ‘gangsters’ at the Plunge Protection Team, JP Morgan Chase, and the CME will do their best to drive prices lower, but will get ‘bit’ by a venomous and revengeful market. There will be no tears here.

Gold and silver were recently knocked down to distract from the Greek bond default and that there is a huge movement away from the U.S. dollar as a trade settlement currency. The United States is waging economic nuclear war against Iran and threatening to do the same against India and is likely to suffer similar counterattack against its own vulnerabilities, and a lot more.

We may have hit support levels in both gold and silver, but I am awaiting further confirmation that lows are in place. Such lows may only be trading lows. Recall, we’ve entered a negative ‘seasonal’ time of year for gold and silver that could carry into the summer. There is, however, the possibility of another shot higher into May, but I would hope upside volume would confirm the advent of that move. Except for those of us who are long-term holders or for those who have no positions whatsoever, there is nothing to do here without a renewed upside trigger.

I urge you to subscribe to my VR Gold Letter for much greater detail at www.vrgoldletter.com. Call our office, we can offer you a discount for subscribing to more than one service.

For now, I am as psychologically prepared to see silver at 20 as to see it at 60 in the next twelve months. The big numbers for silver are 26 support and 37.60 resistance. The big numbers for gold are 1521 support and 1792 resistance – above which we could see 2500. As Ed Hart used to say on the old Financial News Network in the 1980s, ‘we will know in the fullness of time’.

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 This week may provide some trading opportunities for us if all goes well now that most traders are investors are all giddy about stocks again. Last week we saw money move out of bonds and into stocks and the bullishness vibe in the air reminds of many market peaks just before a 5%+ correction in stocks.

Depending how the SP500 unfolds we may be going long or short equities, long precious metals, long bonds, and our VXX trade may spike in our favor.

Bonds: After last week’s strong move down in bonds as the HERD moved out of bonds and into stocks it may be providing us an opportunity to catch a dip or bounce in the price of bonds. If the stock market sees strong selling this week money will run back into bonds.

Looking at precious metals it looks as though gold, gold miners and silver may still head lower this week. The charts are still bearish and pointing to another multi percent drop in value. Gold will look bullish around $1600, Gold miners (GDX) around $48, and Silver around $30 but we need to see one more wave of strong distribution selling for that to take place.

Crude oil has recovered nicely from its 5 wave correction which shook us out of the trade for a profit. I still like the chart for higher prices but with it trading at resistance and a high possibility of sellers stepping back in at this level I am not getting involved here.

The SP500 made a new high last night but has run into sellers early this morning taking prices straight back down. The chart in pre-market looks as though we will see lower stock prices later today and with any luck the fear index (VIX) will continue to rise in our favor.

Watch Live Video Analysis: http://www.thetechnicaltraders.com/ETF-trading-videos/

Chris Vermeulen
http://www.GoldAndOilGuy.com

Click Chart for Larger Version: While it is difficult to properly attribute blame for the collapse of the US economy, which commenced in the early 1980s, on either the Fed’s policy of easy money starting with Alan Greenspan (and terminating with today’s statement by Goldman that merely a suggestion of “not easing” may be equivalent to “tightening” – a symptom of a terminal junkie), or the resultant self-indulgent lifestyle of the maturing baby boomers, one thing is certain: the paradigm downturn of the United States began in the early 1980s.