TIME Asia

China’s Economy Continues to Defy Gravity. That May Not Be a Good Thing

A container truck drives past the container area at the Yangshan Deep Water Port,  part of the newly announced Shanghai Free Trade Zone, south of Shanghai
A container truck drives past the container area at the Yangshan Deep Water Port, part of the Shanghai Free-Trade Zone, on Sept. 26, 2013 Carlos Barria—Reuters

China announced better-than-expected growth over the second quarter. Despite optimistic official figures, there's plenty to worry about in the world's second largest economy

China announced its GDP figures for the second quarter on Wednesday and — surprise, surprise — they were better than expected. Growth clocked in at 7.5% — which just so happens to be the government’s official target. The statistics will likely give a boost to sentiment globally. Investors have been worried that a slowing China would hit the entire world economy. More buoyant Chinese growth will probably calm those jitters.

Yet China is also something of a puzzle. Somehow the economy continues to power through all sorts of issues that should be slowing it down. The all-important property sector, which accounts for some 16% of its GDP, is undergoing a major downturn. For most of the year, the government has tried to control dangerous levels of debt in the economy and clamp down on “shadow banking,” which encompasses alternative financial networks and lending practices. Tighter credit should translate into slower growth. Beijing is also supposedly on a mission to streamline bloated industries like steel by eliminating excess capacity, which, though healthy for the future prospects of the economy, should also act as a drag on short-term growth. So should President Xi Jinping’s ongoing anticorruption campaign, which in theory should be disrupting policymaking and creating uncertainty.

So how is China defying gravity once again? There is always the perennial suspicion that the numbers are inflated. Capital Economics looks at statistics that aren’t as easily manipulated as GDP, such as freight shipments and electricity output, to gauge the economy’s performance, and figures GDP has probably been expanding more like 6% in recent quarters. But economists are crediting the latest growth rate to government stimulus, carefully targeted at infrastructure and public housing, both investments the economy still needs.

This is a smart move. The Chinese government has ample ability to keep growth humming while it attempts to implement more substantial reforms. However, the reliance on stimulus also raises doubts about what might be ahead. Some economists see growth “bottoming out” and a revival continuing through the rest of the year. Others believe continued headwinds, especially the struggles of the property sector, are too strong for the government to counter — without even greater largesse. That might be on its way. New loans made in June were the highest in five years, according to research from Barclays, which suggests that the government is loosening up credit once again.

That begs the most important question facing China’s economy right now: Will Beijing sacrifice reform for growth? So far, China’s leaders have controlled their usual urge to pump up growth rates, an indication they realize the dangers lurking in the economy. Since the 2008 financial crisis, debt in China has risen to dizzying heights. A recent report from Standard & Poor’s calculated that China’s corporate sector has more debt outstanding than any other in the world. Combined with tremendous excess capacity, a risky increase in shadow banking and signs of a property bubble, the Chinese economy is rampant with problems that threaten its future. Some economists believe Beijing needs to address these ills and resist efforts to use credit and other stimulus to rev up growth — or else face a possible financial crisis.

Yet the reforms necessary to fix these problems are coming very slowly. Beijing has pledged to undertake a bold slate of measures — to liberalize interest rates and other prices, improve the performance of bloated state-owned enterprises, open protected markets to competition, strengthen the financial sector and allow private enterprise greater sway in the economy. All of these steps, if implemented, would make the Chinese economy healthier and more advanced. But so far, only the most minor of experiments have started, such as the approval of a handful of small private banks and the opening of a free-trade zone in Shanghai to tinker with more open capital flows. Even more, once the greater reforms fall into place (if they ever do), it could take years before they have an impact on the economy.

There are two ways of looking at what’s going on. One is that China’s policymakers are wisely going slow on potentially painful reforms while the economy works out some of its messiest problems in an environment of relatively stable growth. The other, less optimistic, view is that the problems rotting away at the Chinese economy are so complex and entrenched that policymakers are prioritizing continuing growth over tough reforms. In that scenario, China’s broken-down growth model will be kept alive with debt and government spending, while the fundamental change necessary to take China to the next level stalls.

I continue to be afraid of the latter. And with China the world’s second largest economy, we all should be too.

TIME Economy

Here’s Why Americans Are Having a Lot Less Fun This Summer

Americans Spending Less on Fun Things
Shoppers walk through Herald Square, outside a New York City Macy's in May. Andrew Burton—Getty Images

Less money is being budgeted to discretionary purchases as food and fuel prices rise

A sizable chunk of Americans are cutting spending on fun activities this summer, while nearly half have upped their spending on household essentials, a new survey reports.

The biggest changes are in the kitchen, with a net percentage of 49% of Americans spending more on groceries, while 12% are cutting dollars put to dining out, according to the first Gallup poll to retroactively survey U.S. spending habits, comparing those of June this year and last year. Additionally, spending on gas, utilities and healthcare rose, while spending on travel, electronics and clothes dipped.

Americans Spending Less on Fun
Gallup

The findings arrive amidst rising prices of essential living items that are cannibalizing money that American families had previously budgeted to luxury or leisure activities, according to Gallup. Food prices, especially, have increased in recent months, with the U.S. Department of Agriculture predicting a 2.5 to 3.5% rise over 2013 levels. Gas prices are up too, with a 20 cent rise from last year’s summer. And already the bulk of Americans have felt the effects: between traveling and eating, this year’s Fourth of July was deemed the most expensive yet.

“These results paint a picture of consumers straining against rising prices on daily essentials to afford summer travel, dining out, and discretionary household purchases — the kinds of purchases that ordinarily keep an economy humming,” the Gallup report stated.

But Gallup data suggest that Americans aren’t willing to give up their fun altogether, even if that means they’re purchasing accommodations less lavish than before. Despite spending less money on traveling, for example, Americans are actually traveling more, made possible by increasing amounts of people deciding to travel somewhere close to home. Most Americans will travel by car this summer, with 69% planning to take a trip this summer, compared to 52% in 2009 during the recession.

Still, the real damage of Americans having less fun isn’t necessarily spiritual: it’s economic.

“Because consumer spending is the lifeblood of a healthy economy, these findings suggest that discretionary spending still has a way to go before it will fuel the kind of economic growth Americans have been hoping for,” the report said.

TIME Economy

Wall Street’s Values Are Strangling American Business

When finance calls the shots, we all lose

It’s widely known that more than half of all corporate mergers and acquisitions end in failure. Like many marriages, they are often fraught with irreconcilable cultural and financial differences. Yet M&A activity was up sharply in 2013 and reached pre-recession levels this year. So why do companies keep at it? Because it’s an easy way to make a quick buck and please Wall Street. Increasingly, business is serving markets rather than markets serving business, as they were originally meant to do in our capitalist system.

For a particularly stark example, consider American pharmaceutical giant Pfizer’s recent bid to buy British drugmaker AstraZeneca. The deal made little strategic sense and would probably have destroyed thousands of jobs as well as slowed research at both companies. (Public outcry to that effect eventually helped scuttle the plan.) But it would have allowed Pfizer to shift its domicile to Britain, where companies pay less tax. That, in turn, would have boosted share prices in the short term, enriching the executives paid in stock and the bankers, lawyers and other financial intermediaries who stood to gain about half a billion dollars or so in fees from the deal.

Pfizer isn’t alone. Plenty of firms engage in such tax wizardry. This kind of short-term thinking is starting to dominate executive suites. Besides tax avoidance, Wall Street’s marching orders to corporate America include dividend payments and share buybacks, which sap long-term growth plans. It also demands ever more globalized supply chains, which make balance sheets look better by cutting costs but add complexity and risk. All of this hurts longer-term, more sustainable job and value creation. As a recent article on the topic by academic Gautam Mukunda in the Harvard Business Review noted, “The financial sector’s influence on management has become so powerful that a recent survey of chief financial officers showed that 78% would give up economic value and 55% would cancel a project with a positive net present value–that is, willingly harm their companies–to meet Wall Street’s targets and fulfill its desire for ‘smooth’ earnings.”

Some of this can be blamed on the sheer size of the financial sector. Many thought that the economic crisis and Great Recession would weaken the power of markets. In fact, it only strengthened finance’s grip on the economy. The largest banks are bigger than they were before the recession, while finance as a percentage of the economy is about the same size. Overall, the industry earns 30% of all corporate profit while creating just 6% of the country’s jobs. And financial institutions are still doing plenty of tricky things with our money. Legendary investor Warren Buffett recently told me he’s steering well clear of exposure to commercial securities like the complex derivatives being sliced and diced by major banks. He expects these “weapons of mass destruction” to cause problems for our economy again at some point.

There’s a less obvious but equally important way in which Wall Street distorts the economy: by defining “shareholder value” as short-term returns. If a CEO misses quarterly earnings by even a few cents per share, activist investors will push for that CEO to be fired. Yet the kinds of challenges companies face today–how to shift to entirely new digital business models, where to put operations when political risk is on the rise, how to anticipate the future costs of health, pensions and energy–are not quarterly problems. They are issues that will take years, if not decades, to resolve. Unfortunately, in a world in which the average holding period for a stock is about seven months, down from seven years four decades ago, CEOs grasp for the lowest-hanging fruit. They label tax-avoidance schemes as “strategic” and cut research and development in favor of sending those funds to investors in the form of share buybacks.

All of this will put American firms at a distinct disadvantage against global competitors with long-term mind-sets. McKinsey Global Institute data shows that between now and 2025, 7 out of 10 of the largest global firms are likely to come from emerging markets, and most will be family-owned businesses not beholden to the markets. Of course, there’s plenty we could do policy-wise to force companies and markets to think longer term–from corporate tax reform to bans on high-speed trading to shifts in corporate compensation. But just as Wall Street has captured corporate America, so has it captured Washington. Few mainstream politicians on either side of the aisle have much interest in fixing things, since they get so much of their financial backing from the Street. Unfortunately for them, the fringes of their parties–and voters–do care.

TIME Economy

Wall Street Payouts Over Mortgage Crisis Top $100 Billion

Citibank To Cut 11,000 Jobs
A 'Citi' sign is displayed near Citibank headquarters in Manhattan on December 5, 2012 in New York City. Mario Tama—Getty Images

But U.S. assets lost $2.7 trillion in value from 2007 to 2010

Citigroup is reportedly closing in on a settlement deal that could cost the bank roughly $7 billion for its alleged involvement in the mortgage crisis.

The sum took Wall Street by surprise, the Wall Street Journal reports. Analysts predicted a settlement of $2 billion, perhaps $5 billion, but nowhere near the Department of Justice’s original request for $10 billion. That was approaching JPMorgan Chase’s record payout of $13 billion, and Citigroup argued it had sold far fewer mortgage-backed securities, so it should pay a commensurately smaller price.

Maybe so, but the Justice Department had momentum on its side. Banks have recently been falling like dominoes before its demands.

From 2010 to 2013, the nation’s six largest banks paid a total of $85.7 billion in settlement fees for their involvement in the mortgage crisis, according to SNL Financial. Add in two more whopping settlements in 2014, plus Citigroup’s impending deal, and the legal bill tops $100 billion. Citigroup’s tab would put it roughly in the middle of the past three years of legal shellackings.

Settlements
Source: SNL Financial, TIME

This partly reflects a more aggressive push by U.S. Attorney General Eric Holder to hold big banks accountable for the housing crisis, even as critics ask how it is that no bankers have successfully been prosecuted since the collapse. Holder himself once said that prosecution of a big bank might be “difficult,” given the complexity of their trades (a statement he later recanted).

But prosecution remains purely theoretical so long as Citigroup, like every other big bank before it, hops on the settlement bandwagon. After all, a lawsuit would have posed a public relations nightmare for the banks. No bank wants to be seen digging in its heels over sums that are positively dwarfed by the losses that mortgage-backed securities unleashed on the larger economy. The IMF estimates that U.S. assets lost $2.7 trillion in value from 2007 to 2010. That’s 28 times what big banks have subsequently paid in settlements.

Untitled
Sources: IMF, SNL Financial, TIME

No wonder, then, that Citigroup is expected to wrap up its deal with regulators as early as next week.

MONEY Economy

4 Takeaways from the Fed’s Big Meeting

Federal Reserve Chair Janet Yellen arrives for a news conference at the Federal Reserve in Washington
Federal Reserve chair Janet Yellen Susan Walsh—AP

This afternoon, the Federal Reserve released minutes from its mid-June meeting, providing a slightly more detailed picture of what chair Janet Yellen and her colleagues are thinking about the future of interest rates and monetary policy.

The June meeting itself had been a big shrug: The economy was getting better but not quickly enough to justify raising short-term interest rates; the Fed also said it would continue slowly tapering “quantitative easing,” the massive program of bond buying that’s meant to ease credit and stoke economic growth.

But here are three new things we’ve learned from the minutes.

1) Look for “quantitative easing” to end in October

We already kind of knew this, since the Fed has been reducing its purchases as a steady rate, but the minutes fill in a detail:

Some committee members had been asked by members of the public whether, if tapering in the pace of purchases continues as expected, the final reduction would come in a single $15 billion per month reduction or in a $10 billion reduction followed by a $5 billion reduction. Most participants viewed this as a technical issue with no substantive macroeconomic consequences…

But:

… participants generally agreed … it would be appropriate to complete asset purchases with a $15 billion reduction in the pace of purchases in order to avoid having the small, remaining level of purchases receive undue focus among investors. If the economy progresses about as the Committee expects, warranting reductions in the pace of purchases at each upcoming meeting, this final reduction would occur following the October meeting.

Bear in mind that this just means the Fed will stop buying bonds. It will still own over $4 trillion worth of them.

2) The Fed is divided about how to read inflation data

In a press conference after the meeting, Yellen said that although inflation seemed to be picking up a bit, the numbers were too “noisy” to conclude that inflation would go above the Fed’s 2% target for long.

The minutes of the meeting suggest that the other Fed governors and regional Fed presidents are divided on this. Some are worried that inflation is still far too low, indicating an economy that’s still too slack. And it looks like the recent strong jobs numbers, released after the meeting, which brought unemployment down to 6.1%, won’t change the minds of the inflation doves.

Some participants expressed concern about the persistence of below-trend inflation, and a couple of them suggested that the Committee may need to allow the unemployment rate to move below its longer-run normal level for a time in order keep inflation expectations anchored and return inflation to its 2 percent target, though one participant emphasized the risks of doing so.

But there’s still a vocal hawk team. Although price increases are very low, their main concern is that the Fed won’t be able to react fast enough when the economy turns.

… other participants expressed concern that economic growth over the medium run might be faster than currently expected or that the rate of growth of potential output might be lower than currently expected, calling for a more rapid move to begin raising the federal funds rate in order to avoid significantly overshooting the Committee’s unemployment and inflation objectives.

3) The Fed is worried that it’s being taken for granted.

…participants also discussed whether some recent trends in financial markets might suggest that investors were not appropriately taking account of risks in their investment decisions… [and] not factoring in sufficient uncertainty about the path of the economy and monetary policy.

What’s the problem with that? There’s always concern that easy policy will stoke an asset bubble. But Yellen has said that while she’s keeping this on her radar, it’s not a major concern yet. One good reason to think so: The housing market, the source of the really dangerous bubbles, is hardly frothy.

Despite attractive mortgage rates, housing demand was seen as being damped by such factors as restrictive credit conditions, particularly for households with low credit scores; high down payments; or low demand among younger homebuyers, due in part to the burden of student loan debt.

4) The labor market still looks weaker than it should be.

Although unemployment is down, some participants in the Fed meeting feel that many workers are still struggling to find work—they note that many workers have dropped out of the labor force altogether—and those with jobs still aren’t in a strong position to demand higher wages.

TIME Economy

Stocks Fall for a Second Day; Nasdaq Slumps

(NEW YORK) — U.S. stocks declined in afternoon trading Tuesday as investors waited for corporate earnings reports due out this week. Technology and small companies fell sharply. The Dow Jones industrial average dropped below 17,000 from the open after crossing that threshold last week on news that employers have been hiring more.

KEEPING SCORE: The Dow fell 88 points, or 0.5 percent, to 16,935 as of 2:21 p.m. Eastern time. The Standard & Poor’s 500 fell 10 points, or 0.5 percent, to 1,967.

The tech-heavy Nasdaq composite fell 50 points to 4,401, a loss of 1.1 percent. It hasn’t fallen that much in two months. Pandora Media, a music streaming service, fell 6 percent. Two other tech stars, Facebook and Netflix, fell more than 3 percent each.

BUY SAFETY, SELL RISK: Utilities rose 0.7 percent, the only sector of the 10 in the S&P 500 that rose. Telecommunications stocks fell the most, 1.3 percent. The Russell 2000, which tracks small-company stocks, fell 12 points, or 1 percent, to 1,174.

WATCH THOSE EARNINGS: With major stock indexes near record highs, investors will be scrutinizing second-quarter earnings reports for evidence the run-ups have been justified.

Financial analysts expect earnings per share for the S&P 500 rose 6.6 percent from a year earlier, according to S&P Capital IQ, a research firm. That is about double the increase in the first quarter. They expect earnings growth to accelerate for the rest of the year, topping 11 percent in the fourth quarter.

The earnings reporting season unofficially kicks off after the close of U.S. stock markets Tuesday when aluminum producer Alcoa reports its results. Wells Fargo, the No. 1 home mortgage lender in the U.S., reports Friday.

BULL MARKET PETERING OUT? Randy Frederick, managing director of trading and derivatives at the Schwab Center for Financial Research, doesn’t think so. But he’s not surprised investors are jittery and selling a bit. He notes that the S&P 500 has risen for 1,940 days since its 2009 low, the fourth longest bull market since World War II.

“The longer it gets out of line with historical patterns,” he says, “the closer we get to fizzling out.”

DEAL SWEETENER: Drugmaker AbbVie fell $1.60, or 2.8 percent, to $55.80 after news that it raised its offer to buy another drug company, Shire. The target, known for its rare-disease drugs, has rejected three AbbVie offers.

EUROPE: France’s CAC-40 fell 1.4 percent and Germany’s DAX fell 1.3 percent. Britain’s FTSE 100 dropped 1.2 percent.

BONDS AND OIL: U.S. government bond prices rose. The yield on the 10-year Treasury note fell to 2.57 percent from 2.61 percent late Monday. In energy markets, U.S. crude for August delivery fell 45 cents to $103.09.

TIME

New Orleans Mayor: Essence Festival ‘Huge Economic Engine’ for the Big Easy

2014 Essence Music Festival - Seminars - Day 2
New Orleans Mayor Mitch Landrieu onstage at the 2014 Essence Music Festival on July 4, 2014 in New Orleans. Paras Griffin—Getty Images

The three-day event generated around $241 million in 2013

New Orleans Mayor Mitch Landrieu said Friday the Essence Music Festival “may be the most important event the people of this city are involved in.”

“What started off as a small music festival,” Landrieu told TIME, “has now turned into a huge economic engine for this city over a weekend that otherwise wouldn’t have filled up the city.”

Over the past 20 years, big names from Beyoncé to former Secretary of State Hillary Clinton have drawn massive crowds to the “party with a purpose,” which has become the largest African American music festival in the U.S. Essence is owned by TIME parent company Time Inc.

At a press conference on Friday, Landrieu said the financial impact of the 400,000 people expected to pass through New Orleans over the weekend is “in some instances, incalculable.” Last year, the event brought over a half-million people to the city, generating about $200 million during a weekend that was at one time “dead,” says National Urban League president Marc Morial, who was the city’s mayor when the event first came to town.

“Essence not only gave us something over the Fourth of July weekend, but it gave us something every year,” Morial says. “There’s a lot of local businesses that take advantage of the opportunity to enhance their sales by way of Essence.”

After Hurricane Katrina devastated New Orleans in 2005, Essence moved the festival to Houston, Texas. The festival’s absence meant the city was left without the people and the money it typically brings in.

“When Essence wasn’t here there was nobody working,” says Murphy Christina, the general manager of Mulate’s Restaurant, a family-owned Cajun restaurant near the festival’s headquarters. The town was so empty that Fourth of July weekend that Christina closed the restaurant. But today, it’s open for business — and business is booming.

“Today, everybody is working,” Christina says. “We’ve got a full house three days in a row.”

Joe Blancheck, general manager of the Marriott hotel across the street from where the event is held, also said the event helps his business.

“All of our hotels sell out pretty far in advance,” Blancheck says. “We have a lot of repeat customers every year.”

MONEY The Economy

Why the Good Jobs Report Isn’t Even Better

140702_JR_GOVERN_1
Bridge Building in the New Deal Era Photo Researchers—Getty Images

These four charts show why today's jobs report could have been that much better— if only public-sector employment would ever bounce back.

Thursday’s jobs report, which showed that the nation’s unemployment rate fell to 6.1%, was viewed in a very positive light.

Not only did more Americans gain employment than expected in June, but wages perked up as well. The White House, in fact, noted that the private sector has added 9.7 million jobs over 52 straight months of job growth.

The key word there is private. Of the 288,000 jobs added in June, 262,000 were private sector positions. That means only 26,000 came from Federal, state and local governments. Which means if you’re a teacher or a Leslie Knope-wannabe, finding work remains less than easy.

In fact, this chart shows how the public sector outlook has deteriorated since the end of the recession in June 2009:

US Government Payrolls Chart

US Government Payrolls data by YCharts

Yet in the aftermath of past recessions, such as the one that ended in 2001, local, state and federal jobs have traditionally been the first to rebound:

US Government Payrolls Chart

US Government Payrolls data by YCharts

Federal employment in particular continues to be weak…

Source: BLS

…The same goes for teaching jobs.

teachers
Source: BLS

Why have teachers had such a rough go of it? Well, according to the Center on Budget and Policy Priorities, states are simply spending less on education:

At least 35 states are providing less funding per student for the 2013-14 school year than they did before the recession hit. Fourteen of these states have cut per-student funding by more than 10 percent.

But states are not alone. Ever since the effects of the stimulus have worn off, federal government spending has also hit a wall.

TIME Economy

Unemployment Rate Dips to Lowest Level Since 2008

June job growth beats expectations

+ READ ARTICLE

The U.S. economy added almost 288,000 new jobs in June, according to new government data Thursday, handily beating analysts’ expectations and sending the unemployment rate to its lowest level since September of 2008.

The pace of job creation well outpaced projects that the economy would add 215,000 jobs. The unemployment rate dipped from 6.3% to 6.1%, its lowest level since the month Lehman Brothers collapsed and the U.S. economy went into a tailspin.

Stock markets jumped on the news, with the Dow Jones Industrial Average surpassing 17,000 points for the first time ever.

The data from the Bureau of Labor Statistics signaled that the economy was healthily bouncing back from a biting cold winter that hampered growth, and relieved economy watchers who had been alarmed by an economic contraction in the first quarter. The numbers will also sure come as a relief to Democrats who have been fearful that a still-sluggish economy will hurt them against Republicans in the midterm elections. June marked the fifth consecutive month of job gains exceeding 200,000, the best clip since the tech boom of the late 1990s, the Associated Press reports.

Job growth figures for May were also revised upward. BLS described the job gains as “widespread,” powered by growth in “business services, retail trade, food services and drinking places, and health care.”

Signs that the economic recovery remains tepid still persist. While the longterm unemployed, defined as those jobless for 27 weeks or more, dropped by 293,000, 3.1 million Americans remains in that category.

But with exports hitting a record high and imports falling, the trade deficit fell 5.6%, to $44.4 billion.

TIME Economy

U.S. Job Creation at 6-Year High, Poll Says

Office Work Station
John Lamb—Getty Images

On par with May levels

The percentage of Americans who say their employers are hiring remains at a six-year high, according to a new poll, in another positive economic indicator following a sluggish winter.

The Gallup survey out Wednesday found that 40% of employed Americans said their workplace was hiring, while 41% reported no staffing changes and just 13% said their employer was letting workers go. U.S. workers have reported increased hiring at their workplaces for five months.

The poll of more than 16,000 Americans put Gallup’s Job Creation Index—a measure of net hiring activity in the U.S.—at +27, matching May’s index as the top score in more than six years. The index does not measure the actual number of jobs created, but rather reflects the percentage of employers who are hiring.

Another survey by the payroll processor ADP showed that private employers in the U.S. added 281,000 jobs in June, up from 179,000 added in May.

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