I spent quite a bit of time writing about the Chinese Real-Estate bubble in 2009-2010. Back in 2005, the bubble (based on affordability ratios) was already evident, but post Gov’t stimulus boondoggle, the bubble turned into a super-bubble. Sometime in late 2010, I had written everything that I really had to say about it, and since there’s no equivalent of Chinese-CDS that I could find to buy and make some cash on the impending real-estate meltdown, I could only sit back, think about other things, and wait for the inevitable.

Some of the things I wrote:

• Dec 2009 – China Radio International: Real Estate
• Jan 2010 – Bloomberg Picks Up on China Real Estate Bubble
• Dec 2009 – Real Estate Bubble – Exit Strategy
• Jan 2010 – China Bubble? Jim Rogers “No”. Jim Chanos “Yes”.
• Jan 2010 – Even the Police Dept. is Building Houses
• Jan 2010 – Leverage and the Chinese Property Bubble
• Dec 2009 – Take It From Japan – Bubbles Hurt
• Dec 2009 – Finally an Economist who Understands China

Most interesting notes from two years ago?

This is exactly what China needs to worry about – when the debt is unwound, what will keep the brakes on the descent.

And…

The 2009 “Expand Domestic Consumption” (扩大内需) policy of China has been a newspaper success around the world, however, I’m inclined to think the result will be exactly what was experienced in Japan: “succeeded only in inflating the national debt”.

So here we are. The music has stopped. Let’s see who sits down, and who doesn’t. In the long run, this is a very good thing for the Chinese economy. Every day earlier means less mis-allocated resources to re-allocate.

Conspiracy Theory:

Could the technocrats have planned this all along, as a way to force wealthy Chinese to provide financing to develop new housing for the rest of the nations citizens, and crash the market enabling those less affluent citizens to buy up the houses at effectively subsidized prices?

Before you start looking for an apartment anywhere, the first step it to set your budget.

I was also quite surprised to find that rents for newer (built after 2008) building are significantly higher than for buildings that are just slightly older. The reason, is due to the amount that the land lord paid when purchasing the apartment. For example, if the land lord paid 50,000 RMB/m²
2 because the unit was purchased after 2008, you can probably find a 2005 unit of identical location and near identical quality for about half the price, as the land lord would have only paid 25,000 RMB/m².

Obviously there is a status benefit, particularly important in China, associated with the higher rent location – but if you’re simply looking for a great location and a great value, you’re best of looking for someplace built between 2000-2005.

Next, DO NOT GIVE UP, DO NOT GET DISCOURAGED. Each time I’ve found an apartment that I really liked, I searched for two weeks, looking at 50 different apartment units, before finally settling on one that I like. No single agent will take you to so many places, but there’s an easy work around.

First, decide approximately which neighborhoods you would consider living in, probably something in proximity to your work, your social circle, or your preferred transit option, and then walk around on the neighboring streets looking for real estate agents. Agencies are local, and even though they can access their shared database throughout the city, they’ll often have the key to the units you want to see at an office near by.

These are the obvious things – what about not so obvious things.

1. HEAT SITUATION

Shanghai is extremely cold in the winter. If you haven’t lived here yet for an entire winter, you really have no idea how cold it gets. Most importantly, when you’re outside with heavy clothes the Shanghai winter is OK, but when you come home, stop moving and remove your down jacket, you’re in for a horrible surprise. Shanghai has high humidity, between the low temperature and the wind, it’s possible that you’ll never feel warm at home.

First thing, make sure that you’re apartment has THERMAL PANE (double pane) windows. I’ve found some amazing apartments with beautiful views, but rooms full of big, sliding, single pane windows provide approximately zero insulation value.

My advise, forgo the most breathtaking, all glass walls, in favor of more moderate window placement.

If you can find a place with either heated floors (地暖) or boilers/radiators (暖气), then you’ve hit the jackpot. These systems burn natural gas (煤气) so while they provide heat that doesn’t dry the air, they also will save you thousands of RMB/month if you leave the heat on.

2. TAX RECEIPT (发票)

Depending on your personal situation, you may or may not need a tax receipt. If you do not need one, expect to save about 5%, or conversely, if you do need one, expect to add 5%. For rental properties, there is no “standard” of whether or not a tax receipt is or is not included in the asking price. You need to inquire.

3. ASSOCIATION FEE (物业)

Under normal market terms, the association fee (物业费) is to be paid by the landlord, not by the tenant. If the land lord wants to fight about who is responsible for the association fee (物业) then you’ve probably found a real cheapskate and will probably run into other problems down the road.

Normally you will only be responsible for: Water, Electricity, Gas and Internet (水电煤及宽带).

4. WENZHOU PEOPLE (温州人)

Throughout Shanghai, a large percentage of the landlords are from Wenzhou. Almost all are absentee landlords and they generally take zero pride in maintaining a quality apartment, or providing a fair value. They are generally real estate speculators, and are generally horrible land lords. If anything breaks, do not expect your Wenzhou land lord to do a respectable job making repair.

On the other hand, land lords that have an overseas connection are generally fair and win-win oriented. The stronger that overseas connection, the better I’ve found it is to work with them.

Bottom line, if the land lord is from Wenzhou, a big minus. If they went to school overseas, a big plus.

5. WHY NOT THREE YEAR?

Whenever possible, I would recommend signing a three year contract. Inflation in China, particularly in Shanghai is out of control. Signing up for a longer contract is beneficial for the land lord, they know that the apartment is not at risk of sitting empty, but more importantly, it protects the tenant against annual rent increases. Use a longer term as negotiating leverage to get the lowest possible price, and lock in that price for as long a period as reasonable.

Moreover, if you know you’ll be in a unit for three years, it’s reasonable to make some improvements to the unit, without being concerned that you’re simply giving your land lord leverage to raise the rent a few months later.

For example, if you sign three years, and spend 20,000 RMB on repairs, that only works out equivalent to the land lord raising rent by 555 RMB/month.

You’ll also save paying out the AGENT FEE if you decide to move.

6. AGENT FEE (中介费)

Agencies try to hold off discussion of their fee for as long as possible. For the agency, their preferred arrangement is: landlord pays 1-month rent to agency as referral fee plus, tenant pays 1-month rent to agency as finders fee

I’ve even heard of cases where the tenant is to pay 2-months fee to the agency, but I would suggest you walk away immediately if your agent tries something like that.

The best case scenario is that the landlord + tenant combined pay 1-month of rent to the agency.

As the tenant, the lower you can negotiate the fee, obviously the better. Depending on your style, you may or may not want to negotiate it up front. If the agent that showed you a unit that you happen to really like seems to not be operating in your interest, and tries to charge you more than 50%-month worth of rent, then you may consider telling one of the other agents that you’ve been working with about the community/building/unit number, and they can look it up and broker it for you. This is a bit devious, so you should only resort to this sort of thing if your agent is simply doing the minimum amount of work possible and not working in your best interest.

It’s also important to understand exactly what the agency is responsible for delivering. There are a lot of lazy agents that simply pick a few nearby units that seem to be at the top of your price range (therefore maximizing their commission), take you for a quick look, and pressure you to sign the contract.

There are also excellent agents that will spend hours going through the listings databases plus their own network of contacts to find a unit that really matches what you’re looking for.

Some agents provide amazing after sales service. If there is a problem, you call them, rather than the landlord, and they will help you to resolve it. If there is some repair or customization that you would like to do, they’ll help find people to do it.

Finding a hard working, intelligent agent makes a big difference.

7. NOT FOR SALE

Sometimes an apartment gets sold right out from under a rental tenant. You should ask the rental agency if this apartment has ever been listed for sale before signing a contract. If the apartment was listed for sale, then the owner isn’t committed to holding onto the property and you are at high risk of having it sold out from under you.

The ideal situation is to have a clause written into the contract that IF the unit is sold: Damages (赔偿) some specifically defined amount of money should be paid out to you if the unit is sold Notice (通知) in addition to damages, you need to be notified at least X amount of time before sale

Best of luck trying to get the “no sale” clause added to the contract. Standard is about 30 days, and as long as the apartment hasn’t previously been listed the risk is low, but at least it gives you a bargaining chip to use with the land lord.

8. INTERNET: Slow or Slower?

Most apartment units in Shanghai only have 1MB or 2MB “broadband” connections, but some units quality for 10MB connections. If you use the internet extensively, it’s worth giving China Telecom (中国电信) a call at 10000 (一万) and asking which type of service is available in the unit that your considering.

9. Utility Bills

When handing over the keys, the land lord should give you the most current utility bills (water, electricity, and gas) and explain the current account situation. If the bills are not yet paid, then you can deduct that amount from your rent and pay it to the utility company. If the bills are over-paid, then your expected to pay the difference to the land lord.

10. Apartment Inventory

Normally all apartments in Shanghai come furnished, so the land lord will provide you with a printed sheet showing each of the items that they have provided (ie. tv, refrigerator, microwave, bed, etc), a bit like a physical inventory sheet for a warehouse. You’re responsible for making sure all of these items are retuned to the land lord when you leave, else it will be deducted from your deposit. If you want to get rid of any items in your apartment, make sure that your land lord has some location where they can be stored. Often times the land lord does not have any such location, so if you have a lot of possessions of your own to bring in, be careful to avoid apartments that are “over furnished”.

11. Payment Terms

Normally all apartments in China are “Pay Three, Deposit One” (付三押一) meaning that on day one, when you want to get the keys, you’ll need to bring cash for four months worth of rent, plus the fee payable to the agency. The agency fee could be as low as 25% of one month, and as high as 200% of one month. Also, the higher the monthly rent, it has a big impact on the actual amount of money that you need to turn over to get the keys.

12. Getting started

There are lots of websites that you can use to research possible apartments, but be advised that the “for rent” pages of these sites are full of bait-and-switch tactics, outright lies, and stale listings that have already been listed. Consider the risks when looking online, and once you zero in on a few areas that you like, just look for the actual real estate broker offices in that area.

Websites that you can use to get started include:

• www.soufun.com (search houses)
• www.baixing.com (ordinary people)
• www.haozu.com (luxury apartments)

There are also english language oriented services, but I would avoid these unless your not concerned about paying a premium price for an agency fee.

• www.salohomes.com
• www.shanghaiexpat.com
• www.ark-shanghai.com

Considering the difficulty of parking in the city and driving around rush hour, I recommend forgoing the automobile all together and simply finding a location with great subway access. By great, I mean less than 2 minutes walk to the station, which is less than the normal walk to find the parking structure. If you take this approach, a few stations that you might start focusing your search around are:

• Line 1 – Xinzha Rd (新闸路站)
• Line 8 – Laoximen (老西门站)
• Line 9 – Xiaonanmen (小南门站)
• Line 9 – Madang Rd (马当路站)
• Line 10 – Xintiandi （新天地站)
• Line 10 – South Shaanxi Rd (陕西南路站)

Of courses there are many many places to choose from, but these are a few of the more centrally located places that still have very good subway access to nearby communities.

If you spend any amount of time in any of China’s cities, it will not take long to notice that there are MANY WEALTHY PEOPLE and MORE POOR PEOPLE. China obviously has a massive population – so you get a chance to see more people in a short period of time that almost anywhere else.

Western strategists continually write about Rural vs Urban China, often writing about these in terms of Rich vs Poor China. Then they equate the current rural condition with Mao’s peasant led rebellion that founded the People’s Republic of China back in 1949.

For whatever reason, pundits are always looking at the LAST PROBLEM, and when they don’t have a deep understanding of the situation, pundits like to make analogies to Chinese history.

I have two contentions:

1. WE FOCUS ON THE WRONG GAP: China does have a rich poor gap that must be improved – but it’s not the rural/urban or even the rich/poor gap. It’s the middle class/rich gap.
2. CHINESE HISTORY ISN’T SPECIAL: China’s history is almost meaningless in trying to understand modern China. What’s happening on the ground today in China has as little in common with the Mao era as the Civil War does with modern America.

Today there was an article in StratFor (Strategic Forecasting) that focuses on the gap between China’s rich and poor. The article is titled: China Political Memo: A Growing Gap Between the People and the Elite.

A recent survey conducted at several top universities in China, including Peking University (PKU) and Tsinghua University, shows that the percentage of rural students enrolled at those institutions has dramatically declined over the past two decades. At PKU the percentage dropped from more than 30 percent in the 1990s to about 10 percent today. The numbers are similar at Tsinghua and other more selective Chinese universities. The most obvious reasons for this decline include China’s rapid rate of urbanization and the increasing number of job opportunities available to the rural population. Still, the decline is a worrisome sign that opportunities for China’s rural population to attain higher social status may be narrowing. The survey findings also reinforce an already evident trend: that social mobility in China is not as fluid as the country’s economic development might suggest.

Good. We’re focused on social mobility. Educational institutions are a big part of social mobility – especially access to the most elite institutions.

You can read the original China Daily article: Rural Students Deserve Better.

The rural Chinese population has been experiencing severe brain-drain for the last 30 years. In 1982, China was 20% urban, and only 26% urban by 1990. Today, China is over 50% urban. By 2035, it’s expected to be 70% urban.

Based on the numbers given in 1990 and today – the admission numbers should probably be closer to 15%. But that’s without factoring in the “brain drain” that has already happened in the country side. The smartest, the most ambitious, the most motivated have long since left this pre-industrial farming communities, and the ones that are born onto these farms try to get out as fast as possible.

So – it’s not a black and white issue – from an efficiency standpoint – to say that more farm students should be enrolled then are already being enrolled.

On the other hand, unrelated changes such as improving the legal system, tax system, and real estate market would probably do more to strengthen the country. How much does the unreliable legal system do to keep people from working with those outside of their network?

In any society, even an ideal one, social stratification is inevitable. But for a modern society to prosper and grow it must minimize barriers to economic advancement. Otherwise, gaps will widen among the social strata, creating potential resentment and instability at the lower levels. In China, the traditional path to a better life was the imperial examination system (ke ju), which began in the 7th century during the Sui dynasty and was open to anyone who demonstrated sufficient intelligence and drive, regardless of social status. Ke ju selected the most promising administrators for the state bureaucracy. As such, it served for centuries as a portal through which smart and hard-working youth could become part of China’s political class. This transformation could greatly change the life not only of the individual aspirant, but also his entire family. Cancellation of the imperial examination system in 1905, during the Qing dynasty, cut off this mode of access. In the 1950s, the division between the people and the ruling elite was reinforced with the introduction of the hukou system, a resident-identification program that created an official division between rural and urban dwellers.

This is a typical example of bias #2 – Chinese History isn’t special. What does the “imperial examination system” have to do with modern China? The exams could be taken by male adults, and the last exam was given in 1905 – meaning that the test taker had to be born before 1890. The imperial exams were a test. “Gaokao” was a test. The SAT is also a test. Why would we assume that “Gaokao” has more connection to the imperial exams than it does to the SAT?

The biggest beneficiaries of the system have been urban dwellers, who have greater access to employment, social welfare, education, medical care and housing than their rural counterparts. Despite years of campaigning by the state for hukou reform and a more equitable distribution of benefits, little has been achieved. If anything the disparity seems to be widening, which makes the findings of the recent university survey all the more troubling.

Of course the industrialized (ie. urban dwellers) are the beneficiaries of modern China – because they are more productive in the urban environment. Their farming jobs are easily replaced with the capital equipment used on American farms – equipment that allows 1% of Americans to work in agriculture.

One of the few portals left for upwardly mobile youth in China is the college entrance examinations (known as gao kao). The gao kao system is intensely competitive, allowing qualified applicants regardless of pedigree an opportunity to enter a university (usually in an urban area), earn a degree and find a well-paying job. While the system falls short in many ways — stipulating, for example, lower quotas for rural applicants than their urban counterparts and thereby further widening the gap — it remains the most efficient path toward the elite class, both politically and economically. And this, much like the imperial examinations once did, helps to anchor stability and, to some extent, secures the power of the elite class. While an expanding educational system was once seen as a great leveler of modern China, a growing imbalance in the distribution of resources between the country’s rising middle class and their less privileged rural counterparts is making it harder for rural youth to move upward. College tuition and fees are becoming less affordable. Many of the top universities choose students based on their acquired specialties — for example, music or technology — which wealthy students are better able to develop. This hurts rural students, who are more likely to have attained high scores through hard work. Meanwhile, many selections are based on personal networks, which further impedes poor students. The result is a narrowing of options for rural youth, the brightest of whom may not have enough money or the right connections to get into the top schools. Barriers are also being raised by the increasingly close connections between China’s political elite and business elite, both urban based. As it becomes harder for China’s rural population to break through these barriers, it could lead to growing grievances over inequality and intensifying social unrest — Beijing’s greatest fear. Therefore, Beijing may need to work to increase access, creating opportunities for the country’s massive rural population.

Yes, it’s sad anytime someone is under-utilized. In 1982, 75% of Mainland Chinese were subsistence farmers. Today it’s less than 50%. Seems reasonable to believe that the 50% that are still subsistence farmers are probably not much better off than they were in 1982 – because they are no more productive than they were in 1982. However, if they want, then can go get a job in an urban area. They can work in the factory, and their kids can get a shot at really integrating into that urban area. Unless the government makes a mess of inflation – there was 100% inflation leading up to the 1989/6/4 incident – the farmers will be fine. They know their future awaits them in the city when their time comes. If not them personally, their children or grandchildren.

The bigger problem is that the wealthy/elite are very entrenched, and getting more entrenched by the second. The far more interesting survey for Tsinghua and PKU would be: what is your parents net worth? or what bureaucracy do your parents run?Knowing how relationships and favors work throughout China, I would be very pleasantly surprised if these numbers were anything like a representative (meritocratic) representation of urban China.

The Chinese Middle class has average incomes around $10,000 USD/year. Meanwhile, China has more than 1.11 MILLION households with net worth over $1,000,000 USD. Houses in most urban areas of China can not be purchased by the “middle class” with the current middle class income:home price ratio.

It’s not the barrier between the poor and the middle class that China needs to worry about – this is a barrier that the motivated can easily overcome. It’s the barrier between middle class and wealthy that they need to worry about — because the smart, ambitious, but frustrated — those are the ones you’ve got to worry about.

In the USA, when you first interact with someone, you assume you are relatively trustworthy and that they are who they say they are, unless they give you some reason to be suspicious. In China, the default stance is that you are always suspicious and you only believe someone is who they say they are, and can deliver what they say they can deliver after they’ve given you reason to believe them. In other words:

• In the USA, innocent until proven guilty
• In China, guilty until proven innocent

China is an extremely low trust environment. As Fukuyama argues, Trust is an economic lubricant, reducing the cost of transactions and enabling cooperation.

Yet, in this ultra low trust environment, companies still have to offer financing terms to their business partners. The result, is that collecting the outstanding cash is very difficult, many payments are unable to be collected, and companies are often uncertain of their overall financial position. From Dec 1st until Chinese New Year, many Chinese companies are focused on collecting outstanding accounts. Books are typically closed on (Lunar) Chinese New Year.

They don’t have much penetration yet, but Dun & Bradstreet (DNB) has partnered with Huaxia Bank to expand into China. (Huaxia is 20% owned by Deutsche Bank).

Every Chinese company having a D&B number would be a big step forward for businesses, and with Web 2.0 technologies, D&B should be able to leverage the Chinese business community to get an early read on which companies are growing, which are struggling, and who you can trust to pay on time – if ever.

Note the D&B/Huaxia JV started in Dec 2006, more than a year after Deutsche Bank acquired a 20% stake in Huaxia, yet it doesn’t seem to be getting a lot of traction yet. Probably not ideal to structure this sort of thing as a JV – since it’s not in the business of actually granting credit, just acting as an information service, and since D&B is a strong global brand that can quickly earn trust in China, it’s probably better structured as just a Foreign Enterprise, ideally selling stakes in that enterprise to each of the biggest Chinese banks. That way you’ve got government support, access to proprietary government information, but you have the free market incentives necessary to succeed anywhere.

It’s already been nearly 4 years, and the JV may need to be restructured, but D&B has the potential to have a huge impact on China – an impact on society far beyond what consumer goods companies can hope for.

UPDATE PPS releases official Mac version.

PPS recently released the first official Mac OS X version of PPStream. Mac OS X “.pkg” or “.dmg” installer packages are available. It’s probably easiest to just grab the installer here pps.dmg. Or you can directly visit the new PPS for Mac download page to view all available options.

Note that PPS is also available for iPad, iPhone, Android and Linux!!!

Way to go PPS team.

For reference, I’ve included the origional PPS vmware instructions below, but they are now obsolete.

Our last Mac OS X problem is the “U盾” for online banking “网上银行”. Even QQ works quite well on Mac OS X these days.

PPS (Peer-to-Peer Stream) a popular P2PTV service works like a Real Time version of BitTorrent, merging the Internet peers provided content into a local steam that’s read locally by Windows Media Player, Real Player, or another similar plugin.

If a user wishes to view a certain channel, the P2PTV software contacts a “tracker server” for that channel in order to obtain addresses of peers who distribute that channel; it then contacts these peers to receive the feed. The tracker records the user’s address, so that it can be given to other users who wish to view the same channel. In effect, this creates an overlay network on top of the regular internet for the distribution of real-time video content

PPS is only available for Windows. Fortunately, modern Mac computers are based on x86 architecture (same as a PC chip) and modern x86 CPUs have extensions optimizing them for Virtualization – allowing a Virtual OS inside your regular computer to run at nearly the same speed as any other applications. Both x86 Intel (Intel VT-x) and AMD (AMD-V) chips support such Virtualization, though all Mac’s use Intel chips due to Intel’s strength in low power, mobile computing such as the Intel-M.

There are currently FOUR Virtualization solutions that run on Mac OS X:

1. Wine Open Source. Commercial “CrossOver” package $40: NO
   
2. VirtualBox Open Source. Free: FULL SCREEN ONLY
3. VMware Fusion Purchase $80, Upgrade $10, Free 30-day trail: YES – BEST
4. Parallels Desktop for Mac Purchase $80, Upgrade $50, Free 14-day trial: YES - OK

Wine would be the most ideal way to run PPStream, as it emulates Windows without actually requiring your virtual machine to have Windows installed, but unfortunately PPStream isn’t compatible with either the OpenSource Wine or with CodeWeavers “CrossOver” commercial version of Wine.

VirtualBox is also free, and under some circumstances will allow you to run PPS, but there are some bugs when resizing the “Windows XP” screen on your Mac Desktop. If you ONLY run PPS full screen (and never run it as a background window), the VirtualBox is another fast, free way to run PPS on Mac OS X.

Parallels was the first virtualization package available for Mac OS X, but I’ve found VMware to be more stable and less frustrating over the long term, so I highly recommend VMware. There VMware vs Parallels wikipedia page seems to be run by the Parallels marketing department, but LowEndMac has an extensive VMWare vs Parallels article. VMWare Fusion works perfectly running PPStream, regardless of Single Window Mode, Full Screen Mode, Unity Mode, regardless if you are constantly resizing, or if you just use one screen size.

Google Maps works great in Beijing, but it has never worked accurately in Shanghai or many other parts of China. Countless requests to Google and Apple to fix the problem go unanswered, so we’re forced to take matters into our own hands.

You’ll need to Jailbreak your iOS device (which is completely legal), thereby installing Cydia.

Once you’ve got Cydia installed, open Cydia and choose “Manage” from the bottom menu, then choose “Sources”. Click the “Edit” button on the top right and then click the “Add” button on the top left. In the dialog box that comes up, enter the following address:

http://apt.mirrordev.com

Click the “Add Source” button to continue, Cydia will verify the URL, then download a list of packages. Once that’s complete just press “Return to Cydia”, and on the top right of the Cydia window click “Done”.

Now, click on “MirrorDev” in your list of Sources, and choose “Location Fixed” from the list. Click the “Install” button on the top right.

After “Location Fixed” is installed, you’ll see a new entry in your Settings screen called “中国区地图校正” (China Map Correction”) that has two settings:

启动 (Activate) [On/Off]

联通版本（China Unicom Version) [On/Off]

Thanks to the developers at MirrorDev for doing what Apple and Google have consistently failed to do. Better yet, check out MirrorDev’s post about the Google Map Fix.

Price is what you pay. Value is what you get.

—Warren Buffet

Beijing regularly complains about the “safety of it’s dollar reserves”. This political posturing makes for nice headlines and helps aggregate soft power, but your response should just be to laugh at Beijing’s naiveté and move on to the next story.

Beijing should keep some foreign currency reserves, which help to stabilize the domestic currency and encourage foreign investment. However, if Beijing did not manipulate the value of the Yuan, Beijing’s dollar reserves would not have risen to the ridiculous levels that we see now.

Today, the Chinese economy is structured to do one thing very well: make products for export. Manufacturing is a notoriously cost conscious business, and as costs in China rise, the government doesn’t want to see factories relocate en-masse to Vietnam, the Philippines, or other lower cost regions. Under normal circumstances, currencies trade a lot like stocks, prices go up and down relative to each other every day. However, every day the Chinese Yuan is worth the same amount of US Dollars. For almost 2 years, it’s been pegged at about $1.00 USD = ¥6.83 Yuan.

Trading Dollars for Yuan.

China didn’t pass a law saying that each dollar is worth 6.83 Yuan. Nobody will be tortured, jailed or executed for trading Dollars for Yuan at another rate. Instead, China’s central bank, The People’s Bank of China (PBoC), has created a policy that no matter what, they will sell you ¥6.83 Yuan for each $1.00 USD. The value of the Yuan is less than ¥6.83. Perhaps the value is ¥6.8, perhaps it’s ¥6.0, it might even be ¥5.0 or ¥4.0 for each $1 USD. However, since the PBoC is willing to sell Yuan at such a discounted price, they have a monopoly on the market. There’s no free exchange market for the Yuan, so nobody, including the PBoC can figure out exactly what the value of the Yuan should be, but the price is set by the PBoC.

Trading Yuan for Dollars

Selling Yuan is a little different story. If you have Yuan, and you want to sell them for Dollars, the PBoC doesn’t make life easy for you. Yuan sellers have to register with the PBoC and request foreign exchange. The PBoC has the choice on whether or not the Yuan sale will be permitted. For anyone investing in China, this is a very important fact to be aware of – one that I expect will bite a lot of foreign investors if the Chinese Real-Estate market bubble were to pop.

Since the PBoC is willing to give you such a great price when you sell dollars and buy Yuan, there is automatically an inward flow into Yuan, in spite of the risk that the PBoC may not let you convert Yuan back into dollars when you want to take your money back out.

If you torture the data long enough, it will confess.

–Ronald Coase

The Big Pile of Dollars

As long as the PBoC keeps the peg, all of the dollar reserves that are acquired are valued by the PBoC at the price that the PBoC paid, even though the value is less than the price paid. Everybody knows that the PBoC is selling Yuan very cheap, so even more people buy Yuan (or other Chinese assets) with the intention of selling them back as soon as the price of the Yuan rises to match it’s value. Combine this with the fact that the Chinese economy is designed to produce exports, and you’ve got a recipe to up with a lot of dollars.

The PBoC has an account full of dollars corresponding to all of the Yuan, Yuan valued exports, and Yuan assets that China has sold to the rest of the world. This pile of dollars is massive and grows quickly. Since some interest on this money is better than no interest at all, the PBoC lends a lot of these dollars back to the US Federal Government, helping to finance both annual deficits and the overall debt, and pushing down interest rates.

Losses: Real or Realized

If the actual value of the Yuan in dollar terms was ¥6.70, but the PBoC’s currently pegged rate were ¥6.80, then every single time the PBoC trades a Dollar for a Yuan, it would be loosing ¥0.10 Yuan for every dollar traded. The bigger the gap between the rate that the PBoC is willing to pay for Dollars, and the the value of the Yuan, the bigger the loss on each trade. Central Banks are funded by Tax payers, so money loosing policies like this are not unheard of.

Every day for several years, the PBoC has been paying top dollar to buy dollars, even though the Dollar has been going down relative to other currencies (Euro, Yen).

(In case you didn’t notice, the flat line, least changed against the dollar, is the Chinese Yuan)

The PBoC re-values the Yuan, either by allow it’s price to be set by the market, just like the Dollar, the Euro and the Yen, or by raising the price the PBoC sells Yuan (perhaps only 6.0 Yuan for each dollar instead of 6.8 today).

THE CATCH, is that even though the PBoC is loosing money every time it buys dollars, from an accounting perspective it doesn’t look like a loss. It’s not until the price of the Yuan increases, the loss will finally look like a loss, a huge loss, to every accountant on the planet.

After the smoke clears

Someday, the PBoC will stop operating as the discount Yuan seller, thereby slowing down their accumulation of dollars, and correspondingly reducing demand for interest payments on their big pile of dollars. Less demand for dollar interest, means that the price of financing debt is going to go up. You’re not going to have many more chances to get a 30-year fixed mortgage at 5% — it was 12% in 1985.

The rising Yuan could be extremely dangerous for the Chinese economy, because there isn’t any other sector that could replace China’s manufacturing jobs. Though there are many well educated and talented Chinese entrepreneurs, the unpredictable regulatory and legal framework make investment in any R&D very high risk. Without further political reform, China appears to be stuck at the bottom of the value chain, in the Manufacturing department.

Occam’s razor: The simplest explanation tends to be the best one.

During WWII, the Japanese conquered the entire eastern seaboard of China. Every port from Hong Kong to Harbin was in the hand of Japanese forces. President Roosevelt promised Generalissimo Chiang Kai-Shek military support to avoid total Chinese defeat.

In 1942, the allies were left with no over land or over sea route to China. The result was a 24 hour-a-day, 7 day-a-week airlift from Assam province, in the northeast corner of India, over the Himalayan Mountains, into Kunming in southwest China. This 525 mile long sky route, flown by Americans and Chinese, transported every allied soldier, every C-ration, every M-16, every condom, everything supplied by the western allies.

August 14, 1945: V-J Day. Japans Emperor Hirohito surrenders, ending WWII.

October 1st, 1949: Chinese Civil War Ends. People’s Republic of China founded.

After spending a year consolidating control over the mainland, the People’s Liberation Army marched into Tibet. The official Chinese line is that they: “Liberated the Tibetan People from Feudal Serfdom under the aristocratic Lamas”. The Tibetan government fled from Lhasa to India, forming the Tibetan government in exile, which claims that the “Chinese have deprived Tibetans of self-determination”.

Post Chinese control of Tibet, there have been discussions about: * The oppression of the Tibetan people under the feudal Lamas * The oppression of the Tibetan people under the Communists * Hundreds of years Chinese history of Beijing controlling the selection of Lamas * Hundreds of years of Tibetans themselves selecting the Lamas * Campaigns of propaganda, oppression, subversion to impact the Tibetans and/or Chinese

Richard Gere campaigns for a Free Tibet. The CIA is on the record for covert support of Tibetan resistance fighters and subsidy to the Dalai Lama. Many Americans campaign for a “Free Tibet” and have the bumper stickers to prove it. To understand the future of Tibet, we need to understand why the Chinese took control of Tibet.

Looking at a political map, the situation doesn’t make a lot of sense. But looking at a topographic map, the situation is more clear. Tibet is massive – nearly twice the size of Texas. In 1950, Tibet was not a strong nation. The British forces in India mounted expeditions to invade Tibet and force trading relations from 1904 – 1911, and a portion of Tibet is claimed by India to this day. India went to war with China in 1962 over this, but China held the territory.

If technology of the 1940s could enable Kunming, in mountainous south east China, to be the terminus of freight route that helped create a stalemate against adept Japanese forces, then Tibet could be the corner stone of the next foreign attack on China.

After the Tibetans surrendered, their remaining representatives signed the “17-point Agreement” of surrender. There is some fluff in the middle of the agreement, but the first two points give you a good understanding of why the Chinese took control of Tibet:

1. The Tibetan people shall be united and drive out the imperialist aggressive forces from Tibet; that the Tibetan people shall return to the big family of the motherland – the People’s Republic of China.
2. The Local Government of Tibet shall actively assist the People’s Liberation Army to enter Tibet and consolidate the national defenses.

Bottom line, at least from the prospective of Beijing, Tibet is a vital part of China’s National Security.

India’s most notorious state is failing to live up to its reputation

And to overcome what one minister describes as a “crisis of implementation”—teachers who don’t teach, nurses who don’t nurse, roads built but not maintained, funds received but not spent—he will have to overcome the most obdurate caste of all: the local bureaucracy.

More than the floods that frequently test Bihar’s embankments, local officials fear the rising expectations of people who no longer meekly accept their lot in life. Their instinct is to contain the waters by discouraging such self-assertion. But it is only by giving people their say, by turning unmet need into a political demand, that the state apparatus will begin to do its job.

Gordon Chang, author of “The Coming Collapse of China“, published in 2001. The book predicted the China would collapse by around 2005, or perhaps as late as 2010. He predicts that widespread unemployment, government corruption, inefficient state owned enterprises, and a lack of leadership would lead to the undoing. Publishers Weekly comments:

His invocations of the “power of the Chinese people,” or of an imaginary individual who will one day “end the Chinese state as it now exists,” read more like political soap opera than judicious analyses.

One of the Amazon commenters summarized Mr Chang’s POV as:

“The Coming Collapse of China” is an angry book written by the son of a man who “left China before the end of the Second World War and [the son] grew up hearing him say that Mao Zedong’s regime would have to fall.” The son returned to China to work as a lawyer in Shanghai. When he wrote this book – his first – it was a polemic in which he pounded away at the evils of Communism and predicted that Jiang Zemin’s regime would have to fall.

The Christian Science Monitor published Mr Chang’s “China: the world’s next great economic crash” article in the Opinion section this week. The truth is probably somewhere in between the current China Euphoria (rise of China is story of decade) and Mr. Chang’s China Collapse POV. For the record, I’m optimistic that China will be in a very strong position by 2050, with living standards in the largest cities (Beijing, Shanghai, Guangzhou) at parity with Taipei and Hong Kong. However there is a massive asset bubble in China that is hurting all but the wealthiest 0.5% (85% of families can’t afford basic housing). 40% of local gov’t revenues come from land sales (Professor Chovanec) and current GDP growth is fueled by real estate development.

The following is an [objective?] look at the current China situation:

Beijing, ignoring advice from Washington and other capitals, did not in the boom times try to restructure its economy to favor consumption. Instead, the Chinese government sought to take maximum advantage of then-surging foreign demand. The role of consumption, therefore declined – falling from a historical average of 60 percent of the economy to about 30 percent last year. No country has a lower rate.

To make up for slumping demand abroad and sluggish consumer spending at home, the State Council, the central government’s cabinet, announced a stimulus plan in November 2008. Beijing originally said it would spend $586 billion through 2010. In the first full year of the program however, it has directly and through state banks disbursed about $1.1 trillion in stimulus funds.

The plan, not surprisingly, is creating gross domestic product, but growth is an artificial “sugar high.” For one thing, Beijing’s stimulus spending last year was around a quarter of the total economy. Now, perhaps as much as 95 percent of China’s growth is attributable to state investment, as a Chinese analyst noted recently.

Despite the massive state spending, the country’s economy is not particularly robust. Power consumption statistics, a crucial indicator of economic activity, show the economy expanding at only two-thirds the announced rate.

Moreover, essentially flat consumer prices last year belie official reports of roaring retail sales. So does the full-year 11.2 percent decline in imports, another sign of sluggish domestic demand. And if the economy is really growing by double digits, why is Beijing insisting on continuing its stimulus?

New York Times columnist Thomas Friedman, however, thinks none of this will be a problem. Arguing that China is not the next Enron, he gives this advice to Mr. Chanos: “Never short a country with $2 trillion in foreign currency reserves.”

Yet Beijing’s record-setting reserves – now $2.4 trillion – are essentially unusable for this purpose. Why? China’s leaders need local currency, the renminbi, to deal with domestic needs. If they convert reserves into renminbi, they will cause the currency to zoom up in value and choke off the critical export sector. Foreign reserves have only limited uses in domestic crises.

Second, the state’s stimulus plan is taking the nation in the wrong direction. It is favoring large state enterprises over small and medium-sized private firms, and state financial institutions are diverting credit to state-sponsored infrastructure. Over the past three decades, China’s economy has expanded at an average annual rate of 9.9 percent because of the private sector, but now Beijing is renationalizing the economy with state cash.

Third, Beijing’s flooding of state enterprises with government cash will undermine their competitiveness, as a similar tide of money severely damaged Japan’s corporations during the bubble years.

Japanese managers discovered they could make more money managing cash than from anything else, and they therefore neglected their underlying businesses. Essentially the same thing is happening in China.

Until the Real Estate Super Bubble finally pops here, I’ll smile anytime I see “China” and “Bubble” in one sentence. From The Economist’s asia column titled “Japan’s love-bubbles for China“.

WHAT our colleague, Charlemagne, calls “bubbles of optimism” over China have been popping in Western capitals, as China has taken a hard line against internal dissent, proven unhelpful in efforts to tackle both climate change and Iran’s growing nuclear threat, manipulated its currency and launched cyber-attacks on Western computer networks. China, muscling its way to global prominence, is not quite the partner the West had been cultivating. Striking, then, that in Japan the bubble of optimism, among the country’s new leaders, is only inflating.

Reuters’s most read story of the decade is the “Rise of China“. The rise started with China’s entry into the WTO – in contrast to Russia who’s never been a WTO member. Western businesspeople and politicians believed that WTO membership would mean China plays by the same rules as the rest of the allies: UK, Germany, France, Japan, Korea, etc. Open markets. Rule of law. Migrating their way toward first world standards. That’s what we’ve seen from the Chinese in Hong Kong and in Taiwan, but there is ever growing skepticism that the same transformation will happen in China.

Now rumors suggest Mr Hatoyama may make a visit of remorse, the first by a Japanese prime minister, to Nanjing, site of a massacre by Japanese forces in 1937. In return (and at less political cost), Mr Hu may pay respects to the nuclear victims of Hiroshima.

In the eyes of Chinese people, the “Little Japanese Devils” are their mortal enemy. The Japanese raped and pillaged in Manchukuo, and even committed specifically horrible atrocities in Nanjing. The Gov’t regularly stokes up anti-Japanese sentiment, so the potential patching up of the relationship could immediately alter the balance of power in asia.

History wars, still far from resolved, point to the limits of rapprochement. So too do maritime disputes over territory. But a huge constraint is the fiscal one. Greying Japan is burdened with deflation, stagnant growth and a national debt close to 200% of GDP. Japan lacks the resources (and the will) for the kind of bold strategic moves, putting Japan at the heart of Asia, at which Mr Hatoyama and Mr Ozawa hint. Even a more autonomous security policy, out from under America’s wing, is almost a non-starter. Japan has cut its defense spending in recent years, to just 1% of GDP. It has grown more dependent on the United States, not less.

The commonly accepted debt numbers are: Japan @ 200% of GDP, USA @ 100% of GDP, and China @ 15-30% of GDP. These numbers are interesting, however the Chinese public debt to GDP ration is probably actually closer to 62% – comparable to the western european average.

Due to the one-child-policy, China is also greying, though not quite as fast as Japan. China also has a 117:100 male to female ratio, meaning that 1 in 5 boys won’t be able to find a mate. Compared to 105:100 in Japan and the USA.

Moreover, only 15% of Chinese Chinese can afford to purchase a home – not even the basic 50 sqm (550 sqft) that most Chinese families reside in. Under these circumstances, even getting married and having a family is a luxury beyond the reach of far too many mainland Chinese.

Note: public debt is the cumulative total of all government borrowings less repayments that are denominated in a country’s home currency. Public debt should not be confused with external debt, which reflects the foreign currency liabilities of both the private and public sector and must be financed out of foreign exchange earnings.

Why is “NetEase” known as 163.com? Originally, China Telecom (电信) and China Mobile (移动) we’re both part of China Post (邮政局). During those days, Chinese people who wanted to use the internet all dialed up via modem to: 163. That’s right, 163 was the phone number to access the internet – no other digits required. In those days, you would buy a pre-paid card to get a temporary username and password.

Why 6.cn, 56.com, ku6.com? In Chinese 6 is just a very lucky number. When Chinese people turn 60, it’s a very big deal – called “dàshòu (大寿)”. Why 60? Because it means that you went through all 12-years of the terrestrial cycle shēngxiào (生肖) 5-times.

Nine is also a lucky number both because 9 is the biggest number and it sounds like “久” (jiu) – the word for permanence.

Of course 8 is the luckiest of them all. Why? Because 8, in Chinese is pronounced “bā” which is very similar to “fā”, as in fācái (发财) – to get rich!

There are also lots of times you’ll see “168″. Why? 168 means “一路发” (yi lu fa) – the road to riches.

However 0, 1, 2, 3, 6 and 7 don’t have any special meaning. They’re neither positive or negative.

Office on the 4th floor? Not likely, because most Chinese buildings don’t have a 4th floor. The Chinese word for death sǐ (死) sounds a lot like the number 4 (四), pronounced sī. Most western buildings don’t have a 13th floor.

On that note, do you know why western culture is sensitive to the number 13? Legend has it Friday the 13th was the day Jesus was crucified, additionally the 13th guest at the last supper was Judas – the apostle who betrayed Jesus to the romans resulting in crucifixion. Ancient Persians, assigning the twelve constellations of the Zodiac to the months of the year, and though the 13th represented the destruction that would follow the completion of the Zodiac cycle. More about unlucky 13.

China whines about “Internet Freedom”

The first lines of the story really say it all.

CHINA hit back at US criticism of Internet control yesterday, warning that relations between the two countries were hurt by the unreasonable accusations in the name of so-called Internet freedom.

Yet another reminder that the CCP is their own worst enemy. It’s sad that the official mouthpiece of a nation with so many bright and talented people responds to intellectual challenge with “your wrong” and “that hurts”. Come on central comittee, you can do better than that.

It was as if the government had hired The Onion as its image consultant.

Seems that the CCP leaders believe they are the ones with the guns and they money and everybody wants to be their friend. However the turning point in Chinese foreign relations seems to have arrived. Their foreign business friends are getting ready to turn their backs just as the real estate bubble litters the landscape with empty luxury apartments and empty office towers.

Of course, the CCP response also included some hard hitting “facts” like:

China’s Internet is open

The Chinese constitution protects the citizens’ freedom of speech

There are a lot of Chinese folks that would sure like to see that new “free speech” version of the Chinese constution… Tank Boy vindicated? We all dream. Come on CCP, this isn’t gradeschool. There are thousands o expatriots and western educated Chinese out here that are here to help, just call before publishing this sort of thing.

Prof Chovanec on Chongqing

I think when you live in a place like Chongqing; you get a much better finger on the pulse than if you live in an expat community in Beijing. What’s happening in Chongqing is very typical of what’s happening throughout the rest of China.

This is an excellent point that is not made often enough. How much would you expect someone in Washington DC’s Chinatown to know about the intent of the president or the future policies to impact the nation? Yet too many of our int’l correspondents in China are not nearly local enough.

Obviously China’s opaque political system, relatively poorly educated average citizen, flexible (unpredictable?) government policy, restrictions on political speech and “state secrets” and lack of a long track record make accurate forward looking analysis difficult to produce.

Jeffrey Frankel, of Harvard University wrote “On the Renminbi”, concerning the RMB/USD peg as the view looked from 2005, just after the first minor devaluation (2.1%) of the RMB. When one currency is pegged to another, the value will typically be pegged too high, or too low. If pegged too high, there will be a run on the currency, just like an old fashioned bank run, but in this case it’s the nations central bank. If pegged too low, the currency will be undervalued. Hot money will arrive in anticipation of the eventual revaluation. Central Bankers must try to get the excess cash out of the system, primarily through Sterilization Bonds.

We have already mentioned that a balance of payments surplus implies that the reserve component of the monetary base is increasing. Some expansion in the monetary policy may be entirely appropriate, especially in an economy with strong long-term growth. But in an economy that is in danger of overheating, the central bank may wish to sterilize the inflow, so as to prevent expansion in the overall money supply.

If the money supply expands, you will create inflation and may also create asset bubbles which [mis]allocate resources from productive efficient. Recently these misallocations have expanded global housing markets and propped up global stock markets.

Sterilization can be a good response to an inflow, for a period of time. It can help the country maintain its exchange rate target without abandoning a target for the money supply or interest rate. But it can become increasingly difficult over time, especially if traditional barriers to capital flows have been gradually eroded. One problem is that it just prolongs the balance of payments disequilibrium, because it by-passes the automatic mechanism of adjustment that reserve flows provide under the monetary approach to the balance of payments. Another potential problem is the quasi-fiscal deficit: if the central bank has to pay high interest rates to get domestic residents voluntarily to absorb “sterilization bonds,” while receiving low interest rates on its reserves of US treasury securities, then it is running a deficit.

Under normal circumstances, Sterilization Bonds would require chinese state banks to purchase bonds from the government, reducing the size of the money supply (because money is handed back to the government). However, in China all foreign currencies collected at state banks are immediately surrendered to the central bank. I believe this policy removes the typical need for “Sterilization”.

Some governments are able to force their bonds down the throats of their banks without paying market interest rates, a form of financial repression; but this just weakens the balance sheets of banks and raises the odds of a banking crisis somewhere down the road.

With the banks all being owned by the Gov’t, this is the case here…

One disadvantage of a balance of payments surplus, on the other hand, is that the reserves, which are typically held in the form of US Treasury bills and bonds and other dollar securities, pay a low rate of return. Interest rates on US treasury bills are low because the market is so liquid and because default is assumed to be very unlikely — and also, during the period 2001-2004, because the Federal Reserve has held short-term interest rates well below normal historical levels. The Chinese authorities have evidently already diversified out of Treasury bills, into agency bonds and other longer term securities, which will probably help the yield somewhat. But it is more likely than not that the dollar will depreciate over the next ten years (not necessarily in the short run), in light of the large US trade deficit, which would reduce even further the return to holding dollar securities. (Diversification into the euro or other currencies has evidently not yet gone far.)

The low interest rates associated with this giant pool of money helped sow the seeds for the global financial crisis. Basically, there is too much money in RMB and not enough good USD investments, yet the Fed set interest rates too low. The result was Chinese bankers buying Fannie, Freddie and boatloads of mortgaged backed securities.

These points are drawn largely from the experience of emerging markets such as Colombia and Korea in the early 1990s. Those countries were able to sterilize capital inflows only for a year or two, before it became too difficult, due to high interest rates on the sterilization bonds and the prolongation of strong capital inflows (as in standard macro models). Chinese officials may be correct that their case is somewhat different, due to a financial system that is less open and less market-oriented.

See the “surrender” policy for dealing with foreign currency.

The capital inflow has consisted largely of Chinese citizens bringing capital flight money back home, speculating on a revaluation, and so far the authorities have not had to pay high interest rates locally to sterilize it. But they may find it increasingly difficult to sterilize further inflows.

The “inflows” are all the Chinese expatriate class returning home story was probably true when this story started, however the size of the bubble today and “Rise of China” being the most read story of the decade indicate the story has been stretched quite a ways now. Interesting that speculators always have a million reasons why it’s different this time and how other people are speculating, but not them and it’s not widespread.

Either way, if this gap is real, better to address it through appreciation than inflation.

But I doubt this is the policy that the CCP will peruse, despite how logical it may be and how much it may benefit the average citizen.