Bubble or salvation?

In an effort to stave off the tsunami of the global economic crisis, east Asian governments have flooded their markets with cash. The Chinese government issued a stimulus package of US$586 billion last year while banks issued US$1.27 trillion in loans during the first nine months of 2009 to get the domestic economy moving. Growth hit 6.1% in the first quarter, its slowest pace in a decade, but then climbed to 7.9% in the second quarter and 8.9% in the third. The World Bank in June predicted China’s economy would grow by 7.2%, but has now raised that figure to 8.4%

Alas, it’s been one hell of a party, but now the more cautious among us are warning that the hangover might not be worth it. Analysts have been waxing prophetic about impending asset bubbles for months now, and the World Bank joined the chorus on Wednesday. “Some governments in the region will have the fiscal space to sustain fiscal stimulus until recovery is on a firmer footing. The time to begin removing monetary accommodation may come earlier, however, given concerns about asset price bubbles,” said Vikram Nehru, the World Bank’s chief economist for the east Asia and Pacific region.

In short, Beijing can throw all the cash it likes at getting the ball rolling, but inefficient lending and speculation is the inevitable by-product. Observers are quick to point out the rocketing real estate costs, overcapacity of iron and other commodities, and wildly vascillating stock prices as indicators of a growing bubble that can only mitigate the effects of the previous one before exploding itself.

Or are we getting ahead of ourselves? It depends who you listen to. Overvalued stocks and rapidly rising housing prices are not out of character for emerging markets, some would argue. Furthermore, China’s mortgage market is relatively small and certainly not likely to fall victim to the over-leveraging that undermined the US economy. And its stock market, while volatile, has neither the relative market capitalization nor the number of participants to cause irreparable damage.

However, with much of the rest of the world still struggling to recover –  and likely to be nursing their hangovers for a while yet – China is regularly singled out as the hope for a return to normalcy. Provided the domestic market can indeed absorb the excess liquidity in the long run, that is.