What is the Future for China?

In recent weeks, more and more investors and market commentators have come to question the continuing prospects of China's economic growth. As China's stock market has hit new lows, the idea that China could continue to expand its economy at its current pace has come into doubt. Historically, inflation in China has always been relatively high in the modern era. Yet, recently, inflation has spiraled out of control. Since last November, the rate of inflation in the price of food has become a problem, and may have fueled the civil unrest seen in the country earlier in the year. Most agree that China's economy is in for some degree of moderation. China's ardent critics have called for an outright "hard landing," while Chinese apologists have argued that China would continue to grow but at a more moderate pace. This hard landing versus soft landing debate has seemed to set the tone for the market's general belief about China's near term economic fate. Which scenario is most likely? To be fair, both camps have a number of valid points. Advocates of a soft landing in China point to the Chinese government's massive foreign reserves—which can be used to recapitalize failing banks. They also cite Chinese consumers' large stockpile of savings and relatively untapped consumption power. Moreover, the fundamentals in China remain relatively unchanged. The country contains a massive population that is still in the process of entering the global middle class. Thus far, China has relied on its exports to support its growth, but that could rapidly change as it works to transition its economy to be more service-orientated. On the other hand, many Chinese bears present powerful arguments as to why China is due for an economic collapse. Two of the most well known Chinese bears are Jim Chanos and Nouriel Roubini. Chanos is famed for having uncovered the scandal involving Enron—which led to company's dissolution. Now, Chanos believes that there is a significant property bubble growing in China. He cites China's massive ghost cities—entire cities that have been built and thus far remain unoccupied—as one of the primary reasons for his economic outlook. For his part, Roubini is known for having accurately forecasted the collapse of the US economy in 2008. Although Roubini is derided for being excessively bearish, he too believes China will collapse due to an excessive allocation of investment. Currently, China's investment represents a massive portion of the country's GDP, and it is this ratio that Roubini cites to give credence to his theory of an upcoming Chinese hard landing. On Monday, the Chinese government announced that it would work to recapitalize its own banks. This move may be positive for China in the near term, but what does it say about the Chinese economy in general? So, what does the future have in store for China? Certainly, if a bubble does exist, there is no historical precedent for a slow unwinding. Bubbles—by nature—tend to deflate rapidly. Still, China is a unique case due to the fact that its economy is capitalist while its government is overtly dictatorial.

Traders who believe that theories of a Chinese hard landing are misguided might want to consider the following trades:

Traders who believe that China's economy is a bubble due to pop may consider an alternate positions: