Quinlan

CHINA IS NOT YET ABLE TO BREATHE EASY OVER OLYMPICS

While global financial markets remain focused on the credit crunch in the US,
another market-rattling problem could be brewing thousands of miles away – in
China.

Many investors expect a post-Olympic economic slowdown in China, as
infrastructure spending slows and activities related to the run-up to the games
wane. But a pullback could materialise before the Olympics, not after.

A pre-Olympic slowdown may be on the cards if the government is forced to act
aggressively to reduce pollution in and around Beijing. As any visitor to
Beijing quickly realises, air pollution is an acute problem, and one China wants
to tackle swiftly, lest its Olympic coming-out party is shrouded in smog.

Because of the Olympics, China has worked hard to go green. Around Beijing,
various polluting industries have either been relocated or refitted with more
energy-efficient technologies. Coal-burning plants have been converted to
cleaner fuels, and more stringent vehicle emission standards have been
instituted. Sizeable funds have been pumped into Beijing’s public transport. As
a result, the air quality has improved.

However, doubts persist about China’s environment, and for good reason. The
challenge before the nation is herculean, considering that China is home to 16
of the world’s 20 most polluted cities. As much as 10 per cent of China’s
farmland is polluted; roughly 700m of China’s people drink water contaminated
with waste. In 2007, China surpassed the US to become the world’s largest
emitter of greenhouse gases.

In Beijing, soaring car ownership and the lingering presence of many heavy
industries are the main causes of air pollution. In addition, Beijing is
surrounded by mountains that prevent pollutants from dispersing and is subject
to severe sandstorms.

Against this backdrop, the United Nations has warned that high levels of air
pollution are a “legitimate concern” for anyone participating in the games. The
International Olympic Committee has also expressed its concerns and has said
that some events may have to be rescheduled. Haile Gebrselassie, the men’s
marathon world record holder, is threatening not to run if conditions are not
safe. All of the above has not been lost on Chinese officials. According to
Bloomberg, the government has already decided to close several coal-fired power
plants, cement factories and chemical manufacturers about a month before the
games.

Similarly, factories producing steel, building materials and other
pollution-generating commodities may be shut down or have their production
limited prior to the Olympics. Also, the government is expected to ban more than
1m cars from the capital’s streets before and during the games. Construction
activity is expected to be curbed sooner rather than later.

To what extent these measures slow the pace of real growth in Beijing in
particular and China in general remains uncertain. Yet there is little doubt
that should the government mandate a two- or three-month, pre-Olympic reduction
in industrial output, the general economy will feel some of the pain. The macro
impact would not be insignificant, since Beijing and China’s north-east account
for about 30 per cent of the nation’s industrial production.

In the end, the more China struggles to improve its environment, the greater
the potential for more draconian measures. The games are too symbolic for China
not to act aggressively. Hence, if the air does not start to improve by the
spring, China may have no choice but to slam on the industrial brakes.

Such a scenario would stun a global financial community long-accustomed to
China growing by 10 per cent or more a year. In particular, a pre-Olympic
slowdown could result in a deflationary shock to the global commodity markets,
triggering an abrupt decline in commodity prices. In turn, real growth in many
high-flying commodity nations would weaken. The upshot: weaker global growth and
softer global earnings in 2008.

All of the above is another way of saying that there is a great deal riding
on China and its battle to clean the air before this August.

About Ling

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