While China has been outspoken in expressing concern about the United States printing too much money, those worries might be better focused at home. No country beats China when it comes to effective monetary easing.

Beijing has scrapped lending quotas, adopted a loose monetary policy and kept interest rates at a four-year low to boost liquidity and promote growth. The policy has worked. China has lent out more money in the first four months of this year than the whole of 2008. Money growth in China is up more than 25 percent this year, versus about 10 percent in the United States.  Click here for a related graph.

Beijing’s “monetary emissions” will have major consequences, and China might suffer from inflation before other countries in the world. The flood of liquidity that has been injected will almost certainly overwhelm the country’s seemingly indestructible overcapacity. History has shown that China can have inflation even during times of severe overcapacity, such as in 2008.

So far, China remains in a honeymoon period. Cheap money is sloshing about but thus far it has only generated asset price inflation — the sort of inflation that investors like. Meanwhile consumer prices are still falling — by 1.4 percent in June versus the same period last year. Factory gate prices were down 7.2 percent.

These price declines must be seen in context. They reflect a high base of comparison last year, showing China needs to worry more about inflation than deflation. Chinese policy makers might have misread the symptoms — the big drop in manufacturing activity late last year has been exaggerated by a sharp destocking process, which means end demand did not fall as much as the authorities thought.

Beijing has prescribed a strong remedy in flooding the market with liquidity. And businesses, banks and local governments are only too happy to swallow it, for commercial as well as political reasons. Banks make money when they lend, businesses like cheap money, and local government officials get promoted when local economies perform well.

As one might imagine, equity prices have been the first to respond to this liquidity injection. Chinese stocks  have been a top performer this year, up some 63 percent, while the Dow is down 3 percent over the same period.

Next in line is the property market. House prices in America are still falling, but in Chinese cities such as Shenzhen and Shanghai, they have risen by up 20 percent since April. Long queues increasingly form when new apartments go on sale, and the government is talking about increasing the supply to help cool the market.

BLAME THE PIG

It will not be long before asset price inflation starts to infect the real economy. People buy televisions and refrigerators to go with their new apartments and a buoyant stock market prompts investors to order shark fins and hairy crabs for lunch.

In China, the first signs of real economy inflation will almost certainly be seen in pork prices. Over the past decade, pork prices have acted like a coal mine canary in predicting inflation. In 2004 and 2007, inflationary bursts were preceded by spikes in pork prices.

A jump in pork prices in 2007 and 2008 prompted the authorities to introduce new incentives to promote pig farming, which increased supply. As a result, pork prices have dropped by 39 percent from the high seen in early 2008. Pig farming has become unprofitable and farmers have cut hog numbers as a result. This simply paves the way for another round of pork price increases. Click here for a related graph.

It will only be a matter of time before inflation is transmitted to the country’s factories. After sharp de-stocking during the last quarter of 2008, Chinese companies have started restocking in anticipation of higher commodity prices later this year, which in turn has helped drive global commodities higher.

The price of some manufactured goods such as clothing and toys has already risen as the export slump forced thousands of factories to close, causing supply to drop more than demand.

When inflation reaches consumers and factories, policy makers will start to raise interest rates again. Asset prices might then experience a last round of euphoria as a wider spread between domestic and international interest rates attracts foreign inflows. But higher interest rates will reduce corporate earnings and home buyers’ spending power, and asset prices might start to fall.

Inflation is always and everywhere a monetary phenomenon, as monetarists like to say. China is on a money-go-round ride that can only end with higher prices. Watch out for the next export from China — inflation.

– At the time of publication Wei Gu did not own any direct investments in securities mentioned in this article. She may be an owner indirectly as an investor in a fund –

As the financial crisis forces American consumers to curb their shopping binges, the world starts to realize that China’s high savings level has some upsides, marking Chinese consumption as the most resilient in the world.

Beijing has to, however, be careful in how far it goes to encourage domestic spending to help the economy ride the global downturn. Credit-driven booms and consequent busts from the United States to South Korea are pointers to the need for caution.

About 75 percent of Chinese consumers plan to maintain or increase spending in the next 12 months, while almost 60 percent in the United States and the European Union expect to reduce spending, a recent Boston Consulting Group survey found.

Although economists have been saying China needs to reduce its savings rate to rebalance the economy, its high savings rate has turned out to be an asset rather than a liability for itself and the world during the economic downturn.

Chinese consumers are more insulated from the economic turmoil because they are less leveraged. Only 12 percent of Chinese said they are financially insecure, while more than a third of U.S. and EU respondents felt they were in financial trouble, according to the BCG survey.

Contrary to the common belief that the Chinese all behave like Grandet — the miser in Balzac’s novel Eugenie Grandet — the Chinese have been quite willing to spend in recent years. Retail sales growth has outperformed GDP growth for five straight years.

The reason that Chinese still save nearly half their income is because consumption growth cannot keep up with the speed of wealth creation.

During exceptionally high economic growth, much of the increased income will be saved. Spending behavior does not change overnight.

When a Chinese peasant wins the lottery, instead of buying a yacht or a Jaguar, he is more likely to put most of the money in the bank.

Nevertheless, Chinese consumption will catch up as its citizens get more accustomed to a richer lifestyle. But the process will take at least two decades for structural changes like urbanization and demographics to run their course rather than the two years going by some shopping incentives introduced recently by Beijing.

CONSUMER ENGINE

It is hard to imagine that China’s consumption contribution to GDP was even higher than the ratio in America nearly three decades ago, but people lived miserably then. In 1981, when China just started to open itself up to foreign trade, consumption accounted for a whopping 93.4 percent of GDP.

Saving was a luxury at that time because most families struggled to make ends meet. Families grabbed whatever consumer goods they could find because of shortages in almost everything from eggs to fabrics.

The West has for years clamoured for more domestic spending on the Chinese side, but they have to be careful in what they wish for. If the Chinese become big spenders overnight, who is going to finance U.S. consumers?

Also, imagine the pollution when the car penetration level in China reaches that of America, which means the number of cars in what is already the world’s largest market would run into several hundreds of million.

Before China establishes a social safety net for its citizens, it is irresponsible to ask them to squander their nest eggs away on bags and cars.

The South Korean credit card bubble has shown that a credit-driven boom, if not controlled, could end in tears.

To promote private consumption after the technology bubble burst, Seoul cajoled people to use credit cards by offering them tax deductions and even a shot at a lottery.

Korea’s consumption soared as a result, but quickly slumped after credit card default rates surged as people started to spend beyond their means.

Beijing has been flooding the market with cheap credit and throwing around all sorts of incentives, such as tax rebates, subsidies and shopping coupons to encourage domestic spending to boost economic growth.

The strategy may have succeeded in boosting short-term spending, but China should not overdo the incentives in order to avoid Korea’s pitfalls.

Persuading Chinese consumers to spend a lot more when wealth creation slows is both impossible and potentially risky.

Instead, officials should ensure they put the extra savings to better use to reduce global imbalances. Chinese surplus savings end up as investments in U.S. Treasuries, which effectively financed U.S. consumers and homeowners in their economic bubble inducing binges.

China should redirect surplus savings to other developing countries and emerging markets, those with abundant resources and low labor costs, but in need of capital.

These economies, from South America to Africa, are the future growth engines of the global economy. By doing so, China will help reduce the global imbalance rather than worsen the problem.

– At the time of publication Wei Gu did not own any direct investments in securities mentioned in this article. She may be an owner indirectly as an investor in a fund –
(Editing by Mathew Veedon)

Even in the good times, many British consumers were borrowing against their houses just to fund routine consumption, indicating a big hit to come for retail sales and for the banks who hold the loans.

With house prices falling rapidly and mortgage debt tougher to get, it is no surprise that homeowners are less able and inclined to borrow against their houses in order to spend.

That will be hitting the High Street now - analysts are expecting a 0.6 percent fall on the month in retail sales for November when data are released later this week. But a rise in unemployment next year could expose a really serious weakness in household finances, as consumers who counted on being able to extract wealth from their houses to smooth consumption in bad times find that, when bad times come, the wealth isn't there and the banks don't want to lend anyway.

Researchers at Durham University looking at survey data found that 37 percent of homeowners borrowed against their house between 2002 and 2005, typically realising about 6,000 pounds. That's a lot people borrowing a lot of money against very illiquid and now hard to realise assets.

Even more interesting is the pattern of what householders were doing with the money and what was happening to them when they decided to borrow. Over time the proportion of people borrowing to re-invest in their houses through improvements fell, while more was finding its way into day-to-day costs, according to Susan J. Smith, a professor at Durham and one of the authors of the study.

This was borne out by a high percentage of equity borrowers who had lost their jobs, become pregnant or had a child in the year they borrowed.

How exactly a borrower who has lost his job gets a bigger mortgage is a puzzle, but one that evidently banks and borrowers in Britain together have somehow managed to solve. The record in the United States shows that the housing boom brought with it a tremendous amount of mortgage fraud, much of it abetted by people within the lending industry.

In short, it seems that even during boom times in Britain people weren't borrowing against their houses simply to buy BMWs and fund vacations, but often to keep their households ticking over during tough times.

"The rising property market was central to encouraging people to borrow more for non housing expenditure," said Ross Walker, economist at Royal Bank of Scotland in London.  "And with the housing market now in reverse you would expect to see a retrenchment. It reinforces the potential fault line for the UK household sector: there is a big debt exposure and the real test will come next year as unemployment rises."

BORROW NOW, DEFAULT LATER
The housing safety net, such as it was, simply won't be there next year when unemployment vaults higher, which is very likely to exacerbate a spending slowdown which itself will feed unemployment. And remember, these weren't people who were defaulting on their house loans in order to be able to pay their grocery bills, but people who were in part paying their grocery bills because they could borrow against their houses.

I wouldn't want to be the bank that made those loans, or the government that insures that bank. It also goes some way, in my view, towards explaining the very precipitous fall in the pound, which is down more than 30 percent on a trade-weighted basis this year.

According to a survey of households just released by the Bank of England, credit is much harder to get as compared with a year ago. A total of 16 percent of households said they had put off spending because they were concerned about access to credit, up by a quarter from a year ago.

Only six percent of mortgage borrowers said they had taken out an additional secured loan, compared with 10 percent last year and 14 percent in 2006. Nearly 40 percent took out these loans to pay down other debts. That points to higher credit card losses and delinquencies next year, as unemployment interacts with an inability to access fresh secured loans.

So 2009 looks like it will feature higher unemployment, much reduced consumer spending, impaired access to credit and a default cycle that will worsen the already difficult capital problems of the banking sector. There has been a lot of effort and exhortation to try and keep banks lending to consumers in Britain, presumably on the view that it's best to sober up gradually.

That can only work so long, and if it comes at the expense of capital for businesses that make and sell things, especially overseas, it may in prove to be a mistake.

And while big ticket items like automobiles, which are easy to defer, are now suffering, next year may see very tough times on the British high street for more basic items.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund.)