27/05/2010 - 00:00

Boffins bank on control in China

27/05/2010 - 00:00


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The proposed super profits tax relies on continuing growth in China.

THERE are three crucial elements that need to be in place for Canberra to reap its predicted $9 billion annually from the so-called super profits tax.

There must be super profits, a super-profit generating market with growing demand, and finally both these factors must exist for, well, a super long time.

State Scene believes the first two of these three ‘supers’ are presently in place.

But it would take a lot of smooth talking to convince me of the last; that we can be confident both will be with us for a super-long time to come.

Readers may recall State Scene of May 13 (‘Super profits tax a retrograde step’), in which the views of Melbourne-based editor of Diggers and Drillers, Dan Denning, were highlighted.

He cautioned against believing China’s iron ore demand was likely to continue at recent levels.

Instead he pointed out that China already showed signs of having reached over-demand, backing his case by, among other things, alerting us that it presently has empty newly built cities.

Be absolutely clear, that means there’s no-one living in such recently constructed urban centres.

And he also highlighted projects such as huge shopping centres standing largely unoccupied.

Mr Denning said outsiders, including Canberra public servants and politicians who aspire to continue boosting taxes rather than cutting spending, may be erroneously assuming that China’s economy was being driven by aggregate demand, as occurs in normal democratically governed nations.

“It isn’t,” he said. “China’s expansion is politically, not economically, motivated. This isn’t about economic growth; it’s about political stability – stability at any cost.”

It’s crucial to note that highly authoritarian China isn’t a normal country.

Last week, State Scene spoke to a Perth-based economist who monitors Western Australia’s iron ore sales to China.

He agreed with Mr Denning. “It’s true”, he said, “they [China’s leaders] are absolutely fixated with stability.”

Moreover, Bangkok’s violent street riots, where a huge shopping complex and other CBD structures were torched, is something Beijing’s bosses, and those heading China’s People’s Armed Police, have undoubtedly noted and studied.

And last year’s election turmoil, especially across Tehran, following Iran’s phoney presidential election also gave Beijing’s hard men cause for concern.

That’s quite understandable since China’s leaders took power from those who, in 1989, ordered the shooting of Tiananmen Square’s pro-democracy backers; and they’ve since had unrest in Tibet and Xinjiang.

Now, one loyal State Scene reader who also found Mr Denning’s revelations compelling, has kindly provided a just-released report by Pivot Capital Management headlined: China’s Investment Boom – The Great Leap into the Unknown.

London-based PCM is a hedge fund and says it “specialises in macro, event-driven, relative, and fundamental investment strategies on a global basis”.

In other words its team includes the type of boffins who drew up the blueprint for the government’s mining super profits tax.

What we have, therefore, are two groups of boffins who show quite different views of the potential of the Chinese market, most especially about how long its growth will persist and what its magnitude is likely to be.

Here’s how PCM’s boffins assessed the Chinese super market, which they clearly view markedly differently from their Canberra counterparts, who appear to see it as a perennial El Dorado.

PCM’s report begins: “We focus on Chinese capital spending firstly because it is the single most important driver of current Chinese and global growth expectations, and secondly and more importantly, investment-driven growth cycles tend to overshoot and end in a destructive way.”

Those words are certainly a warning to Beijing’s hard, anti-democratic men, and should be the same for Canberra’s super-tax promoters.

“We conclude that the capital spending boom in China will not be sustained at current levels and that the chances of a hard landing are increasing,” PCM’s report continues.

“Given China’s importance to the thesis that emerging markets will lead the world economy out of its slump, we believe the coming slowdown in China has the potential to be a similar watershed event for the world markets as the reversal of the US subprime and housing boom.

“The ramifications will be far-reaching across most asset classes.”

PCM’s boffins go on to make what State Scene regards as a crucially important point.

Contrary to what outsiders, including, of course, Canberra’s Treasury boffins, believe, China is already quite well endowed with industrial capacity and infrastructure.

In other words, it has lots of factories and an adequate road, rail and airport network, all of which required huge quantities of, among other things, steel.

“Consequently, further expansion will not have nearly as much impact on growth as in the past,” the report says.

“A more striking fact is that currently there are 250 million vehicles in US versus 43 million vehicles in China, and China already has a comparable size of highways.

“Furthering the comparison, in total there are 600,000 bridges in the US, of which 450,000 are in use.

“There are currently 500,000 bridges in China, with 15,000 bridges built every year for the past decade.

“These numbers are especially astonishing given that the US has five times more rivers than China. Bridges are a great example of the kind of promiscuous spending on infrastructure that mars China.

“In the past, countries like Japan used to be ridiculed for their ‘bridges to nowhere’.

“China has already dethroned Japan in that category: six out of the top 10 longest conventional and a spectacular half of the top 10 longest bridges are in China.”

PCM’s report backs its case for oversupply in some areas and adequate industrial capacity with many similar examples.

For example, it says it’s impossible not to notice that 37 of 44 airports built since 2005 were located in sparsely populated western China, so are clearly ‘prestige projects’.

What’s the significance of such findings to Australia, and particularly to those driving Canberra’s latest push for more revenue by targeting mining to help bankroll the Rudd government’s penchant for overspending?

The answer is that it’s easy to impose super taxes upon what are identified as super profits, as Dr Henry and Prime Minister Kevin Rudd and Treasurer Wayne Swan show.

But such moves hinge on the crucial assumption that a super market, which China has undoubtedly been since 2004-05, will continue being is precisely that – an assumption.

Unfortunately, a growing body of expertly derived information coming State Scene ’s way points to the uncomfortable fact that such an assumption may well be fool’s dreams when underpinning a national budget.

State Scene wishes Dr Henry, a former academic who quite obviously has for years avidly investigated new ways of taxing Australians, all the best in realising his dream.

Clearly Messrs Rudd and Swan believe Dr Henry’s big taxing blueprint redeems them in the nick of time from their past two years of wasteful overspending on crackpot schemes.

However, if China’s past five or so years of growing demand recedes or plateaux and furthermore, is, in part at least, met by the growing numbers of lower taxed mines worldwide those anticipated super-profits won’t be around to be ‘super taxed’.



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