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The China Earthquake and its economic aftershocks

Posted May 28, 2008

by J. Christoph Amberger

The earthquake in China not only destroyed homes and lives. It also disrupted infrastructure, industry and agriculture in the Chinese economic heartland. Combined with the rising yuan, the idling of industrial capacities, and China’s looming debt crisis, investors should review their Chinese stock holdings now.

A Chinese friend of mine spent most of the last weeks on the phone, checking up on family. He’s from Sichuan, the Chinese province most affected by last Monday’s earthquake. The death toll is now expected to exceed 70,000. My friend’s family had no casualties to deplore—but even they have been spending the last week outside, in tents and in cars, as fear of aftershocks have disrupted life all across the region.

Sichuan and the surrounding areas are among the most populous in China. The province has 40 percent of China’s gas deposits and was responsible for over 20% of natural gas output in 2006. It has historically known as the “Province of Abundance,” being one of the major agricultural production bases of China. As the quake affected mostly rural areas, China’s rice and wheat and pork pork output will be severely affected at a time of already tight supplies and rising food prices.

***You can watch our China Earthquake video right here

But the province is also rich in mineral resources, especially vanadium, titanium, and lithium, not to mention iron, titanium, and cobalt. The quake also hit Sichuan’s heavy industries—coal, energy, iron and steel—as well as its light manufacturing sector (building materials, wood processing, textiles and electronics).

The total destruction of property and production facilities, the forced idling of industry due to the collapse of infrastructure, and the diversion of a major part of Sichuan’s work force due to evacuations and rescue efforts will most certainly be reflected in the country’s economic growth this year.

Harder than even the direct economic implications may be the quake’s effects on the Chinese outlook on the future. Popular superstition considers natural catastrophe as an omen for impending change. I remind you of the 1976 earthquake in Tangshan, which killed over a quarter million people and foreshadowed the death of Mao, the fall of the Gang of Four, and sped along China’s opening to the West.
Political aftershocks

The monolithic political culture in China makes the petty U.S.-style partisan scapegoating we saw after Hurricane Katrina unlikely. Or maybe its just because people in China still work too much with their hands to expect that the effects of a natural disaster can be made to disappear. But as far as I can tell President Hu has yet to be blamed for the earthquake and its aftermath.

Still, I wouldn’t be surprised if the social and political aftereffects will not have a similarly dramatic effect on China’s distribution of power.

The Shanghai Stock Exchange as lost close to 50% since last October. Its recovery since April has been far less pronounced than that of the American or European indexes.

Given the enormous loss, the cost of rebuilding, and the chilling effect on national exuberance, I now believe that the short-term pre-Olympic boom in Chinese stocks that many analysts had been expecting will not take place.

China investors should use the next weeks to adjust their expectations for their Chinese stocks. Because in 2008, these stocks will not benefit from market exuberance, irrational or otherwise—but move exclusively on profit margins and actual revenues.

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