The Lessons Learned from Zimbabwe (Update1)

Probably Zimbabwe will never be forgotten by economists for its world famous hyperinflation and arbitrary restrictions. The fallen from the strongest economy in Africa to the weakest in the world alert people the importance of good governance and recognition of several important things.

Property rights are one of the important things that the president, Mr. Robert Mugabe denies for a long time. From expelling the white farmers to taking control of those private diamond mines, property rights become nothing but something can be easily stolen or robbed. Why people will attend to those things which they might lose at any time? (Read the article from Time and Bloomberg.)

The setting of the price is another thing that perhaps Mr. Mugabe has never learned from anyone who has a little knowledge of economics. The determinant of price is the relation between supply and demand rather than anything else. Again, when you find some policemen came to your store and told you that you might be arrested unless you cut your price of your goods under a certain price, those policemen were probably executing the order of Mr. Mugabe. (Read the article on Economist.)

The story in Zimbabwe is miserable. Hyperinflation reaches 3,700% as officially estimated, which may be actually higher. Millions of Zimbabweans flee the country mainly to South Africa. Those who are still working finds the money they earn provide nearly zero purchasing power in the black-market, since the stores, supermarkets have already had nothing left. However, those who have access to limited greenbacks at the official rate of 250 Zimbabwe dollars to 1 US dollar can make a killing by earning 250,000 Zimbabwe dollars for just one greenback. (Read the article on Economist.)

Anyway, Zimbabwe used to be strong and is used to the extremely poor states. The case is so famous that my macroeconomics lecture always put forward the case for us to discuss. Maybe, if anything fails, there is always one thing that can assure you of immortality called great mistakes.

China’s Economy Is at a Critical Point

News on China’s economy is always popular. In recent days, reports about China’s economy are catching eyes particularly. “China Regulator Urges Investor Awareness of Stock Market Risks”, “China's Inflation Probably Broke Central Bank Target”, “China Money Supply Rises 17.1%, Exceeding Target” and etc. (Headlines from Bloomberg.com) Those headlines are delivering the same message: China’s economy is at a critical point.

Then what is the clue for these problems? One bold guess is the unexpected inflation. It seems reasonable that since the inflation is 3.1% (an estimated number from Bloomberg. com), the negative real interest rate has forced citizens to give up saving at banks as a traditional way of investment and to turn to other financial assets, stocks in particular. In the first quarter this year, 8.58 million new accounts have been opened at brokerages. In contrast, the number for last whole year was only 5.38 million. And the investment of stocks also explains the breaking of the China’s money supply target partially. Many people even try to borrow money to buy stocks which increases the M1 greatly.

Where does the inflation come from? It may result from undervalued RMB. When RMB is undervalued, we can see great trade surplus and higher demand for RMB. To stable the exchange rate of RMB, China’s government purchases a lot US Treasury bond to create demand for US dollar artificially. This method may not give US economy a great impact as I mentioned in “A Brief Overview on RMB and the US Dollar” (May 8th), but it may have great side-effect on Chinese domestic market. One effect is mainly caused by the constant payment of Chinese Yuan, which may lead to the excess printing of RMB and cause an excess money supply. The ending of the circle is a higher inflation rate.

Whatever the reason is, it is a critical point of China’s economy. The flood of new shareholders is not from the elites or at least people with financial know-how. However, they are those who have little understanding of the risks of financial investment. The once popular saying, “there are risks in the stock market, and you should be careful when you enter it” does not prevent the irrational growth of shareholders. If the increase in stock investment could not be contained immediately, an economic bubble would be easily forming at a quick pace, especially for China, such a large and immature economy.

It is reasonable to predict that the government will try to tight its monetary policy (to raise the interest rate) seriously, as the former changes in policies do not work effectively.