Friday, December 9, 2011

Loan Shark or Borrowing Walrus?

I think this comparison to a loan shark is being broadly misunderstood. Yoram Bauman, the standup economist, summarizes the situation here:
Is America a Loan Shark or a Borrowing Walrus?
For a longer answer, note that the U.S. runs a trade deficit with China: we buy more from them than they buy from us, so Chinese companies end up with about $25 billion a month in U.S. dollars that they "don't want". The Chinese government weighs in by effectively buying these U.S. dollars, i.e., it gives these companies Chinese yuan in exchange for their U.S. dollars. And then the Chinese government turns around and uses all those dollars to buy U.S. treasury bonds, currently over a trillion dollars' worth.

It all sounds a bit odd, almost as if the Chinese are loaning us money so that we can buy stuff from them. And there are definitely tensions on both sides. Many people I talk to here in China -- regular folks like taxi drivers and restaurant managers -- know all about the U.S. Treasury bonds that China owns, and they're not happy about it. One man told me that the U.S. was a "loan shark" (at least that's how my dictionary translated "gao li dai"), when in fact the U.S. is more like a borrowing walrus, floating in an ocean of our debt.

First thing one needs to understand is people in China give money TO loan sharks. Between 50% and 90% of households (Wenzhou is the 90%) loan money out to others in various setups, from loan circles to lending through a loan shark. They even take mortgages out on their properties to generate more cash to loan to loan sharks, with the expectation that they will be paid back their principal plus a gain in great excess of the prevailing bank savings rate. Now, the comment from the taxi driver is cast into a different light.

To wit: The U.S. took China's money and gave them treasuries and now isn't going to pay as much back (due to devaluation of the dollar). Voila, the U.S. is acting like a loan shark who not only refuses to pay any gains to the funder, but doesn't even return all of the principal.

Another thing that's been irking me, the notion that Chinese mortgages are safe from a price crash because they put 30% down. What this ignores is that the 30% is also borrowed, just not borrowed from the bank. Or, from that bank, anyway.

Shanghaied Home Buyers Turn Protesters as Shattered Dreams Vex Government
Danny Deng and his bride-to-be dreamed of their lives together as they walked through the showroom for a Shanghai housing project almost three months ago. Pooling his own and his parents’ savings, a loan from his boss and a 1.1 million yuan ($172,000) mortgage, he bought an apartment and secured his fiancee’s hand.
. . .
For Deng, the pain is more than financial. Tears swell in his eyes as he recounts the moment his father handed him access to his life savings of 360,000 yuan to help make the down payment.
Quick calculation has him making about 19k and the wife just under that at 18k (in $). Just the mortgage is 4.6x total household salaries. The house itself is 6.6x household income, and his total debt service, including mom and dad and the boss is 6.3x, most of it at nearly 8% interest.

And yet, the Chinese are touted as savers. Yes, they are, but where are they saving? They aren't keeping their money in guaranteed bank accounts, they are keeping it with the kids trying to get into a grossly overvalued real estate market on the verge of collapse, or worse yet with the equivalent of Bernie Madoff in the form of a loan shark, who may or may not have loaned the money to a run-away shoe factory boss.

The banks this year have suffered an exodus of tens of billions in deposits that went directly into the shadow banking system, to the loan sharks. TO the loan sharks. This "savings rate" and the "large deposits" on real estate mortgages are considered the reason that the property bubble bursting will "be contained" and not impact ordinary Chinese. Believe it?

The lack of understanding of why the U.S. looks to a Chinese taxi cab driver like a loan shark really demonstrates why the general media doesn't seem to grasp what is going on.


jesse said...

Hey this is a good post GG. It has always bothered me too, that "gifts" and other inter-generational or intra-family transfers are being given to prospective homeowners. Whether they gift or lend their money, on whatever terms whether legally binding or simply a tacit understanding between kin, amounts to the same thing: their investments are poorly-performing relative to prevailing inflation and other risks.

Call it what you want, but low earnings are low earnings. Failure to allocate capital at best use will be accounted for in due course.

GG said...

I've been wondering how best to estimate the growth in total mortgage debt in Canada if one includes loans from the Bank of Mom and Dad.

Really too bad CAAMP doesn't ask on their survey the source of downpayment funds. That would be interesting to read over time.