I think it’s a fascinating time for China watchers.  What am I saying?  It’s always an interesting time to be a China watcher.

There has been an underlying assumption in the market that China will grow rapidly forever.  Government resources and domestic trends will allow it to power through the economic slowdown, even when its customers are severely constrained.

We’re now seeing a softening of that assumption.  Economists and analysts are alert to the issues and have been reducing their forecasts.  Growth is expected to be ‘only’ 7-9% next year.

I’m not a member of the dismal science, so I tend to look at everything with my stock analyst hat on.  Here are some random notes on China Inc. from my spiral notebook.

• China Inc. is an exporter to the world.  Its customers are heading into a severe recession.
• China Inc. is coming off a long stretch of rapid and uninterrupted growth.  Excesses always develop during the latter stages of such stretches.  When the downturn comes, stuff will come out of the woodwork that we just won’t believe.  We all remember how previous downturns revealed the ridiculous lending practices in the U.S. housing market or Nortel’s aggressive sales and leasing policies during the telecom boom.
• The downside of a capital spending boom is particularly brutal, just ask the executives at Japan Inc.  If the capex tap is turned off, it sends waves, not ripples, through the whole economy.  China has been going through the mother of all capex cycles.  In some industries, it won’t have to build new capacity for years to come.
• The government will pick up the capex ball to some extent and increase their spending on much-needed infrastructure projects.  That will soften any private sector (sic) decline.
• Stocks like this are the scariest kind.  Transparency is poor, so we never really know how they arrive at their numbers.  Warning bells go off when a company reports steady, predictable, growing earnings (GDP) quarter after quarter, even though its business is far from steady and predictable.  When it eventually stumbles, it falls hard and we find out that it’s been stretching to keep up appearances.  Going back, I think of examples like the Bronfman companies (Royal Trust, Trilon, Hees, Brascan), Pagurian, Loewen Group, Newcourt, Laidlaw and Bombardier.  To me the issue isn’t whether China Inc’s growth is slowing to 8%.  I want to weigh the risk that it goes negative.
• Preliminary conclusion:  Market expectations don’t reflect the balance of possible outcomes.  As with all good long-term performers, the market is giving China Inc. the benefit of the doubt.

Note to self:  Further work required on the health of its customers, political risk and environmental liabilities.  Look into potential boondoggles to Shanghai for more research (February would be good).