China is driving our economy, but will be ignored in the election

Kevin Rudd will miss the G20 summit in St Petersburg because of his September 7 poll?—?and the fragile state of the Australian economy is a factor in this decision.

The key reason for this that we are firmly on the other side of the peak of the unprecedented China resources boom. China will continue to want more commodities in toto than ever but the supply / demand equation is heading the other way with huge licks of new capacity?—?whose massive capital projects have helped drive Australia’s economy?—?coming online to drive down prices.

China is redoubling its production efforts in iron ore and coal. Mining companies have halted large projects and are now engaged in efficiency drives designed to keep decent margins as prices head south. That will be a race against time with the iron pricing looking to have topped out once more at about $130 (last week it fell or the first time in a month). Chinese steel mills have finished re-stocking and the seasonal turning-off of blast furnaces is upon us ahead of lower-construction winter months. The better analysts such as J Capital Research’s Tim Murray and UBS’ Glyn Lawcock agree that it will fall below $100 by next month, perhaps as low as $80 for high-cost junior miners. This is all bad news. The coal price has plummeted and will never return.

The Australian economy is “in transition”?—?a major theme of the Australian government statement?—?but  the Chinese economy is in the beginnings of its biggest overhaul since Deng Xiaoping threw off the shackles of agrarian-based communism more than three decades ago. His model worked brilliantly for a while, but always needed constant reform to keep the economy balanced and gradually reduce its reliance on cheap labour-based exports, government-funded infrastructure and a property boom fuelled by illegal land seizures that made government official richer and ordinary Chinese poorer.

The time to undertake the required transition?—?to a more sustainable domestic consumption-based model with less reliance of the state and its inefficient enterprises?—?was last decade. But the Hu Jintao-Wen Jiabao regime showed little stomach for reform, in part crippled by an internal lack of authority.

This failure was then compounded with the 4 trillion + yuan stimulus that held up growth and supercharged Australia’s mining boom. The stimulus only served to make the Chinese economy even more lopsided and debt-ridden as easy money available to local government created piles of IOUs, many for white elephant projects only accelerating their need for land seizures and bank loans. The breathtaking amounts of money poured into infrastructure assets, manufacturing and property was great for Australian miners but has created a situation where China now has massive overcapacity in every major sector. The chickens are starting to come home to roost. In steel it’s 30%, in semi-conductors as much as 70%, other sectors such as aluminium, smelting and solar panel manufacturing are somewhere between but it’s industry wide, J Capital’s Tim Murray says.

China did not just kick the can down the road, it increased the size of the can.

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