China's credit crunch could trigger huge social change

More worrying economic data from China today. The HSBC purchasing index fell to 48.3, down from last month's 49.2. Anything under 50 is bad news. The Index tracks what company purchasing managers are ordering, seen as a key measure of the economy.

Board showing stock information filled with green-coloured figures, which indicate falling prices Credit: Reuters

Growth is already falling below expectations, even though the government has been relaxed thus far about lower numbers. The World Bank has lowered its expectations for Chinese GDP from 8.4% to 7.7%.

Then there's a serious problem with bank lending. Money that's meant to be lent for social financing, loans to businesses, for example, has been instead ending up being diverted into other forms of lending, between banks themselves and into 'shadow banking'. Shadow banking is investment products which can offer much higher returns than the state financial sector. In the past, we've reported on what happens when shadow banking goes bad.

Chinese yuan coins Credit: Reuters

New government regulations designed to stop cash ending up in tributaries rather than the main flow into the economy, has resulted in a slowdown of that interbank lending. That's choking off credit. It's getting tougher for Chinese firms to borrow. Not good for the economy itself and more bad prospects for growth.

What we're seeing is China's credit crunch. All this doom and gloom has an effect on the world; if sentiment about the Chinese economy is bad then expect world wide stock markets to reflect that negative feeling.

The government can't or won't bail out the economy as it did during the 07/08 banking crisis. Back then the Chinese government avoided the global slow down by spending its way out of trouble with a massive financial stimulus.

Local governments were given easy access to cash to spend on new projects. That tactic kept people in work and generated growth. Not this time. Nor can China rely on its huge export based economy to keep growth rising as it has done for decades because the rest of the world is just not buying Chinese made goods in the same volumes.

Farmer walking to her farm at a village in Shanghai Credit: Reuters

Now China's leaders have a buzzword 'urbanisation', essentially a plan to turn hundreds of millions of farmers into urbanites who will spend their money on buying Chinese made goods. Domestic demand will create the jobs, sales and spending which will translate into growth, that's the rough idea anyway.

Urbanisation is nothing new in China, around 53% of people now live in towns and cities and that's a huge jump from a couple of decades ago. This time the Government wants to speed it up, looking at 70% urban population by 2025. That's a massive planned migration.

This economic plan relies on a new model for the entire Chinese economy. From factory based to consumer based. This will bring huge social changes once again to China. Perhaps the most important change of all is not the economic remodelling itself but the end of what is the largest social engineering project the world has ever seen.

The Hukou or household registration is based on the old Soviet system of internal passports. Everyone in China is divided up into rural or urban citizens. Access to school and medical services is restricted, in theory, to where your Hukou is registered. there are ways around the obstacles if you have the money, many don't.

For hundreds of millions of migrant workers, about 250,000,000 or so, this means they cannot settle in the cities they work in. Now if the Chinese government wants to turbo charge urbanisation then it will have to at least significantly reform the hukou system. Liberalising the economy could also mean freeing the people from the hukou laws, increasingly seen as a hangover from the Mao era.