China Becomes America's New Piggy Bank

Until 2007 homes were the Great American Piggy Bank. Mortgage payments became such a mindlessly popular enforced savings and investment scheme that the housing boom took on aspects of the great Dutch tulip mania and collapse of 1636-37.

In the mid 1970s real estate prices in certain regions of the U.S. began rising faster than wages. That rise was only partly produced by the natural growth of what was then a relatively young American population. The real turbo-boost came from a liberal new U.S. immigration regime that gave easy entry to the moneyed class of Asia, the Middle East and Latin America. Their money — much of it looted from public coffers or derived from corrupt official practices — was mostly pumped into houses and apartment buildings in the top metro markets as a hedge against political and economic instability in their native lands. Feeding the boom was the migration to sunbelt cities by college graduates from the northeast and the midwest. Yuppies stretched to get into the biggest mortgage they could finance in the expectation that their equity would swell faster than any other form of investment.

That proved to be mostly true for over 40 manic years. But by 2006 the rate of new money inflow needed to perpetuate the ponzi scheme became mathematically unsupportable. It took the financial world nearly two years to admit that reality. It then swooned face down on the trading-room floor.

In the bleak aftermath a few astute Americans saw that the best hope for economic resurrection lay not in any sector of the domestic economy but in China’s mass migration from rural poverty to urban industry. That nation had been growing at an average rate of 10% a year since 1991. During that time only about 300 million of its 1.3 billion people had moved into the middle class, leaving three times that amount in future growth. More importantly, as part of deals it struck to win accession into the WTO in December 2001 China agreed to open its financial sector to foreign competition, essentially forcing its state-owned enterprises to adopt U.S.-style financial reporting standards. That had greatly increased the transparency of its businesses, making them far more attractive to foreign investors.

Skepticism about the size and stability of China’s economy has given way to general agreement today that it is likely to be the dominant driver of global economic growth for the forseeable future.

The bet that more and more Americans are making on China takes three forms: direct investment by U.S. businesses of money, knowhow and brand equity into China operations; purchase of shares in Chinese companies; and purchase of shares in U.S. companies with large China exposure. investment in China has skyrocketed recently as doubts have faded about China’s commitment to a economic liberalization. In 1994 it totaled only $2.5 billion. By 2002 it had grown to 5.4 bil. It then dipped to 3.1 bil. in 2005 amid trade tensions. But U.S. FDI in China leaped to $22.2 billion in 2006, $28.6 bil. in 2007, $45.7 bil. in 2008, and an estimated $60 bil. in 2010. That’s about the down payments on 1.3 million new houses in the U.S. That’s about the number by which U.S. annual new home sales are trailing pre-crash figures.

Most people forget that much of our $273 bil. trade deficit with China in 2010 resulted from imports of goods manufactured in China by Chinese firms that were financed by U.S. capital or were licensing and/or purchasing U.S. technology, knowhow and brand equity. For example, sales of services in China by majority U.S.-owned affiliates were $14.0 billion in 2007 and considerably higher in 2010. U.S. exports of private commercial services to China were $15.9 billion in 2008, an 18% jump over 2007 and 674% more than in 1994. This gave the U.S. a services trade surplus of $6.1 billion with China in 2008. That’s enough to support about 400,000 well-paying American jobs.

One of the more visible recent examples of how Americans are turning China into their new piggy bank is GM’s record $20 billion IPO last November. The $33 stock price was more about GM’s strong positioning in the growth of China’s car market than its growth prospects at home. At IPO time GM was expected to sell more cars in China than in the U.S. in 2010. That prediction is holding up. Within five years when GM is likely to sell twice as many cars in China as in its home market, American shareholders will be seeing good returns from what amounts to a direct stake in China’s rapidly growing middle class.

Americans with a bigger appetite for risk are reaping big gains from trading in Chinese companies listed on U.S. stock exchanges. The 140 or so listed on NASDAQ include high-flying internet stocks like Baidu, Sohu and Sina that now have valuations of around 40 to 80 times earnings — far higher than those of similar U.S. firms — on the reasonable expectation that 700 million more Chinese will be spending money online in the next decade.

Americans who like more traditional sectors have been buying the 80 or so NYSE-listed Chinese stocks like China Mobile, Petrochina, China Aluminum, China Telecom and Sinopec. They’ve done much better than those who have confined their bets to U.S. stocks. From January 2005 to December 2010 China’s stock market more than doubled in value while the U.S. stock market ended even. To be sure, there has been a great deal of volatility in China’s stock market, but it has kept bouncing back through countless dire predictions of bursting bubbles.

So the old American Dream of retiring on gains on the equity of home ownership appears to be giving way to the new American Dream of making a tidy nestegg by betting on the Great Chinese Dream of raising a billion hard-working, thrifty people into the middle class.