Money - It's a Gas

Written By Brian Hicks

Posted May 2, 2006

In China, roads are being built. Other roads that have already been constructed are torn up and repaved. With an urban unemployment rate of 8%, the government has to have people do something…so sometimes they have them undo something.

The economy is not just destructive, of course. China is known as "the world’s workbench" for a reason, though that moniker leads one to believe that we merely use the country as a surface on which to do our own handywork. Of course the workbench includes the worker, and those workers are getting richer.

State sector workers’ income rose 16% on last year, according to the official Xinhua news agency. That’s a 5-year record, almost matched by 13% wage increases across other sectors.

Sounds like great news, right? Workers are making more, chipping away at the sweatshop image of China and boosting millions into the consumption class.

But take a look at the difference in where urban and rural salaries end up even after the increase: Assuming that the wage increase will continue for the rest of the year at a steady pace, high-paid state sector urban workers still end up making only around $2500 US a year. Rural workers will surge all the way up to about $600 per year.

Driving Deep the Wealth Wedge

Here’s another recent statistic to consider: First quarter growth of the Chinese economy was 10.2%. Many experts predicted a slowdown this year after a torrid pace of growth last year and widespread domestic overcapacity in production. But instead of gradually applying the brakes to itself, the market just keeps going.

That makes it tough to achieve the "harmonious society" Hu Jintao touts so often. The gap between rural and urban workers is an obstacle to harmony, and as the urban-based economy grows so does the chasm.

So last Thursday the People’s Bank of China raised interest rates by .27%, the first rate hike in 18 months. The government’s lowered 8% GDP growth target for 2006 is already unachievable (on the high end), as the first quarter is usually the beginning of an uptrend.

Nevertheless, Beijing planners are trying to tighten the belt, making money flow less freely so that the wage increases actually mean something.

When the renminbi was revalued last July, the central bankers prepared by allowing more money to circulate, and so eased lending restrictions.

But more loans issued means more money is out there, and more money available means inflation. The number of these loans that could go sour and add to a pockmarked banking sector also worries foreigners buying into the Chinese banking boom.

So the interest rate hike, a similar process to which is going on in the United States, will cool things down a bit if all goes according to plan.

Tread Lightly

The Chinese, just like Americans, are straddling a tightrope between robust spending and economic growth on one hand and overheated economic conditions on the other.

Coincidence? Not quite. China holds more greenbacks than any country except Japan, and that is a precarious position to be in when one considers the dollar’s continuing decline against most foreign currencies.

So China is going for the gold. The not-so-far-fetched rumor is that the Chinese will soon be launching a dollar-denominated gold-backed certificate and ETF, as part of an effort to diversify external investment.

But linking the dollar to gold (which Richard Nixon explicitly undid in 1971), China is acknowledging that the record high gold commodity prices we’ve been seeing are not so much a vote of confidence in the metal as a vote of trepidation over the future of the US dollar.

China wants to spend its loot. Even the state pension fund is about to be unleashed to investments abroad. The linchpin of Chinese socialism is about to become as multinational as Wal-Mart or the globetrotting mutual funds that have become more and more successful and popular over the years.

But as China extends itself its currency is expected to rise based on the country’s purchasing power and the parity of its dollars on hand to what the renminbi should be.

Domestic price increases brought about by soaring commodity costs (which China and India have fed to a great extent) are biting the Chinese consumer just like oil (whose price is fixed in China) is biting Americans.

Both Washington and Beijing are to a large extent impotent in the face of international market pressures.

Senators may think it’s a good idea in an election year to send $100 checks to American citizens to help soften the blow of gasoline costs, but the very cost of that gasoline means that the hundred bucks isn’t the same hundred bucks it would have been a few years ago. You just can’t buy as much these days.

For China, not being able to buy as much means that demand for Chinese exports will decrease. They want to prop growth on domestic spending rather than capital inflows, but the trade surplus is still massive.

Moreover, jobs are needed in order for local officials in the Chinese Communist Party to avoid peasant revolts and put a good face forward at the Party congress in 2007.

Here in the States, keeping prices stable is pressing not because of peer performance but because this is an election year. Though political parties have little or no control over monetary supply, earmark spending in local districts determines how much money each voter has in his or her pocket.

In both countries, the dollar is key, and so is spending. I predict that the dollar will weaken further as China tries to reconcile its long-term purchasing power with its current economic health.

– Sam Hopkins

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