All Episodes
Jan. 8, 2025 - Epoch Times
24:42
Kyle Bass: Why the Chinese Economy is Going to Collapse
| Copy link to current segment

Time Text
I know many companies that are US companies that have had billions of dollars in earnings sitting in Chinese banks, and they can't get it out.
Kyle Bass is the founder and chief investment officer of Heyman Capital Management.
He's known for his prescient bets on major global economic events.
In this episode, we dive into why he views China's economy as actually collapsing.
And what he believes the big economic and financial priorities of the incoming U.S. administration should be.
This is American Thought Leaders and I'm Jan Jekielek.
Kyle Bass, such a pleasure to have you back on American Thought Leaders.
Great to be here, Jan.
So let's talk about the Chinese economy.
I think you're one of the people who understands this whole realm best.
You've said that you believe right now the Chinese economy is collapsing.
That's also something that numerous people that are dubbed China hawks have said in the past while, but somehow they managed to pull through.
The property sector absolutely collapsing, I think unquestionably, but somehow they seem to be pulling through.
And so why is it different now, or is it different now?
Yeah, I think that when you think about China, you have to think about it in two spheres.
You have to think about domestic China and how they operate their own Their own internal situation on the mainland.
And then you think about China Inc.
as they interface with the rest of the world.
And it's important to think about it in those two buckets.
And here's why.
Internally, they have an RMB-based economy.
And China can abandon moral hazard.
I don't even know if they had a moral hazard, but they know how to define it.
But they can do whatever they like there.
If their banking system is insolvent in RMB, they can print the RMB. When you look at their banking system, it's about 350% of GDP. The U.S. banking system is one times GDP. If you include the non-banks and then the Fannie and Freddie's of the world, we're about 1.7 times GDP in our banks.
So China's banking system is twice as large as ours in an economy substantially smaller than ours in a world in which they've only been at, call it advanced banking since 2002. They've only been at this 20 years.
So they've got a lot of plates spinning and they've got a lot of leverage and almost 40% of bank assets in China are lent.
To domestic real estate.
So if your real estate market's down 30 to 50 and your economy is three and a half times levered to your banks and your banks are insolvent, you have a real problem.
And their problem is larger than ours was during the global financial crisis.
Now, Jan, they would never tell you this.
They can't tell you that.
They don't want to show that they're weak.
They control all of the data.
But it's easy to see the architecture.
What they did wrong and what they've done wrong and what's happening internally.
Their dealings with the rest of the world are vital to them.
And what I mean by that is they import about 13 million barrels of crude oil every day, the world's largest importer of crude oil.
They import almost 9 BCF of LNG every day.
They are the largest importer of LNG in the world.
They import 40% of their food every single day.
And all of those imports they have to pay dollars for.
So where do they get the dollars is the question.
And they have to keep a robust trade relationship in dollars with us to be able to pay for their daily operations with the rest of the world because they have a closed capital account.
Their RMB is not convertible into anything unless the Chinese party allows it to happen.
They control that escape valve.
So it's really an artificial exchange rate, closed capital account.
Internal disaster.
But they've made a lot of money by being the world's factory floor.
They've made it two ways, right?
They've been the world's factory floor since 2002. And then they started stealing IP. And their IP, if you think about this, if you stole $200 to $300 billion worth of IP every year, and you make a return on it by employing it, using it, and even making it potentially better, they've got a machine.
Where they were factory workers and stealing IP. And the way you think about China Inc., they've had a positive net income, right?
So meaning if you and I were running a country, we need to have more dollars coming in than leaving.
That's how you think about the current account.
And they've taken that money and they've spent it on modernizing the military.
So their capital investment has been make money while the sun is shining, make some hay while the sun's shining.
And then modernize your military and force project so that you can achieve your potential goal of global primacy at all costs.
And they're going to come up a day late and a dollar short, but it's going to be a potential kinetic situation if and when they take Taiwan.
And I think that's coming.
Well, so maybe just give me the building block.
You mentioned a few different things.
There's this property sector, and it's interesting how you divide it on the internal and the external.
Give me the pieces that make up the Chinese economy now.
Well, it's important to note that when you look at the breakdown of their economy, real estate and its concentric circles were the driving force in the, let's just say, in the uplift and lifting 400 million people from poverty into the lower middle class in China.
And I'm going to tie the most important driver to maybe one of the biggest risks that's facing them real quick.
And it's happening in the developed world, too.
We've seen all of these reports of birth rates collapsing, whether we're talking about the U.S., Europe, or China.
And China's birth rates collapsing faster than anyone else's.
And here's why, Jan.
You just have to think about this intuitively.
If you allow real estate prices or even encourage them to just move up and to the right.
And you know how local governments in China were selling land to developers, and that's how they meet their local government budgets.
Well, as we all know, that's not happening anymore because we're in a collapse.
But housing prices as a percentage, so median housing prices in the numerator, median income in the denominator, in Tier 1 cities in China, that ratio got to be 25 times.
Imagine if you made $100,000 a year and you had a $2.5 million house, could you afford it?
The answer is absolutely not, right?
In the U.S., at our subprime worst, our median home price to median income got to 6.6 or almost seven times.
They got to 25 times.
So what happened in China with this, call it unrestricted speculation in real estate?
Well, the men, when they graduate university, They don't have enough money to get an apartment.
And therefore, they're not having sex and procreating and they're not getting married.
So if you look at the number of marriages in China, it's collapsed.
The number of births has collapsed.
They've gone from, you need 2.1 births per woman to just sustain a population.
China's now down to 1.2.
So what's happening?
They allowed real estate prices to get so high.
That no one can afford them coming out of university.
Therefore, their birth rates collapsed, which becomes a real problem.
So the reason that China is not stimulating its domestic economy and turning real estate around and letting it move back up is Xi Jinping realized his folly.
And you remember when he came out in 2019 and he said, financial security is national security.
And he realized that The population demographic curve was tanking, and it was because they allowed this rampant speculation in real estate, which basically was the Chinese miracle.
The Chinese miracle was real estate and all the concentric circles around it moving up into the right, growing GDP exponentially, and basically becoming the growth engine for the world on paper.
But when you look at Did that wealth in GDP creation end up in the pockets of investors?
Imagine this.
16 years ago, if I told you that I knew that there was a country in the world that would become the world's second largest in GDP, and it was going to grow its GDP 505% over the next 17 years, if you invested in their largest public index, which is the Shenzhen Shanghai 300 Index, Going into a 500% increase in GDP, you would imagine you would have made more money than you could pull vault over.
And instead, what happened is you lost a third of your money.
So in the U.S., we've grown our GDP over the same period about 75%, and you're up about 440% if you invested in the S&P 500. So investing in communism has never worked in the long run.
It never will.
And they end up showing themselves, and Xi Jinping has shown himself since roughly 2017. And so when you get into a scenario where you're trying to bet or hope on a turn in the Chinese economy, and you realize that it's actually an architectural, structural flaw in their economy, it's just kind of a fool's errand.
I mean, I'm not saying that you can't trade it.
I'm not saying that you can't get in front of a big government announcement and have stocks move up briefly, which just happened.
But it's of my opinion that they have about $2 trillion equivalent of equity in their banking system.
So I think about the first 14 trillion RMB that they print will only fill a hole.
It's really interesting because aside from the stock market in China, which you said is basically down a third, there are actually quite a few Chinese companies that are through this very unusual mechanism listed on U.S. exchanges. there are actually quite a few Chinese companies that are At least a thousand, I don't know the exact number, and significantly invested in as well by Americans and others.
Yeah, it's actually crazy.
As you know, if it's in the VIE structure, which is typically how all of them are, not all of them, the majority of them, then you only own a fantasy football warrant, right?
VIEs have no ownership.
Directly to the entity in China.
It's a tracking entity against their performance.
So there's actually no there there.
There's nothing underneath.
Oh, and by the way, the VIEs aren't subject to U.S. PCOB covered audits like every U.S. company is.
As you know, in 2013, we entered into a memorandum of understanding between China's securities regulator, the CSRC, and the U.S. Under the SEC, it's called the PCAOB, the Public Accounting Oversight Board.
So we said, you know what?
Even though every U.S. company is subject to PCAOB-covered audits, we just think China will be okay.
We'll just trust you guys.
And in fact, you saw Gensler did a spot audit of four Chinese companies.
And a spot audit means they just get to see the paperwork.
They don't get to call the banks.
They don't get to have interviews with these people and the companies.
They just get to read some paperwork.
That's redacted.
And they decided to give them another three years.
What's been happening on is insane.
We need to have uniform standards for listing in America, period.
We should stop the shenanigans.
I would love to know how that happened.
Do you know how the exemption to actually having meaningful audits occurred in the first place and how this investment vehicle that...
You don't actually own anything as you're telling me exists?
Yeah.
If you own a Chinese-listed ADR in America, it's most likely, call it 95% of them, are called the variable interest entities, VIEs.
And again, they own nothing.
They don't have a claim.
They don't have any liquidation preference if the company liquidates.
In America, there are bank loans, there are bonds, there are stocks.
If a company gets sold or if a company gets liquidated, if things go poorly, there's a chain of a waterfall where you own this thing, so you're going to get what you deserve.
In China, if it goes bankrupt and you own a VIE, you get absolutely nothing.
You have no claim on any assets.
And just imagine owning a fantasy football share in an economy run by a communist government, who's our number one adversary.
Hard to believe.
It's like antithetical to anyone's common sensibilities.
And yet we do it.
You know why?
Because there's this 1.4 billion person rainbow over there and we can't wait to see, sell something into them or see it perform so that we can make some money.
And in the end, everyone's losing their money.
I mean, in the end, you're going to lose everything.
Let's say most people that I've spoken with are kind of an enthusiastic supporter of the Wall Street engagement that's been happening.
Scott Besant, you've been a huge supporter of his, in fact, for him getting the nomination, which he has now.
So what can we expect might be different from the past when it comes to Treasury, in your mind?
Money does a lot of talking in D.C. And when you look at Scott Besant, one thing you realize is, A, he doesn't need any more money.
He doesn't need to go raise.
Money from the Chinese or the Saudis or anyone afterwards.
He is a pragmatist.
He understands the plumbing of global capital flows better than anyone that was in the running by far.
And he also has a gravitas among global central bankers that is important.
He doesn't have to earn it.
He already has it.
So when he steps in there on January 20th or January 21st, he has Already has the world kind of mapped out and figured out.
And so when you say, how is this going to change?
We are not going to be taken advantage of the way we had been taken advantage of in the past.
We are going to use the...
Scott, I believe, will end up using the tip of the spear of our economic power.
And we're going to start acting like we are the number ones.
The world's number one economic power.
We also need to know, if you've listened to his growth plans, you realize we're not going to be able to bring the national debt number down.
We're just going to have to grow the denominator.
We're going to have to get to 3% to 4% growth.
We're going to have to get below 3% inflation.
And we're going to really...
Energize our economy, but unlocking those kind of capitalistic animal spirits that we're going to unlock because of the prior administration's just lockdown on many of these ideas in the interest of climate change and, God knows what else, anti-competition.
So I think when you think about this Treasury versus whether it's Yellen's Treasury or Mnuchin's Treasury, I would bet all my money on this one and forget about the other two, because Scott is as talented as anyone has ever been in the position that he's in.
This Trump administration is inheriting an accelerating debt, and the debt payments becoming an increasingly significant portion of the actual money that's out there.
That's one side.
The other side is, we have this I agree.
I think when you look at the time continuum of the United States and where we've had our best years in economic terms and financial terms, You have to go back to what makes this situation so unpredictable and so difficult to deal with is prior to 2009, the Federal Reserve's balance sheet in the United States had never hit a trillion dollars.
So think about this.
15 years ago, we had never approached, we had never broken a trillion dollars in Fed balance sheet creation.
From 2009 to 2019, Let's call it the financial crisis up until the Wuhan virus propagating itself around the world.
In a very small window, 15 years, we took the Fed's balance sheet from below one, below one, all the way to $9 trillion.
We created $8 trillion of Fed balance sheet in 15 years.
And the majority of it was created, $5 trillion, was created in a Less than a 24-month period between 2020 and 2022. So we have huge imbalances.
They went berserk.
They clearly overcooked it.
Thank God Joe Manchin is alive or we'd have another trillion and a half or two trillion thrown into this.
So you have a scenario, Jan, where the macro forces acting on us and the rest of the world.
We just blew it.
We just pushed 40 to 50 percent dollar inflation to the world.
And the world has a negative convexity to our push, meaning what we push them is only the beginning of what happens to them.
So if you look at the Middle Eastern economies surrounding, let's just say, Israel today, if you're not a monarchy, you have hyperinflated your currency.
It's just gone, including Turkey.
The South American countries that struggle with populism, we just push the same inflation to them because the way the world works is everything's priced in dollars.
So if we create dollar-based inflation, that inflation affects the whole world.
And you look at Japan.
Japan's 10-year bond is still at one-tenth of a percent.
You know why?
They can't move it.
So we push the inflation to them.
And what happens?
Their currency depreciates 50. That's the relief valve.
So it's vital.
Desperately, we must focus on the Fed's balance sheet, capital money creation and the deficits.
And I think there is a focus in this new Trump administration through Elon Musk and Vivek Ramaswamy on Doge, through Scott Besson at the Treasury.
There is a focus on fiscal rectitude.
As much as we can do on the cost-cutting, so we have a cost-cutting crew and we have a growth crew, and both of them need to be very successful, and I'm very enthusiastic about that.
So, Kyle, you painted a picture here of basically a very fraught situation that kind of requires that the U.S. be successful.
Where do you see...
The biggest challenges that need to be overcome here, like the key areas which need to be addressed in order to achieve this.
Domestically, I think the roadmap that the Trump administration has starting January 20th is exactly what's needed.
I agree with the roadmap wholeheartedly and Scott Besson's vision of how the Treasury will act and Elon Musk's vision.
On cost-cutting.
Boy, I think all of those things together create such a beautiful menagerie of growth and also fat-cutting.
We need to be leaner, meaner, and we need to show our true economic potential.
And I think with those people in charge, along with President Trump, I think we're going to be able to achieve that.
The challenges that are global...
The inflation we just pushed to the world is very destabilizing from a geopolitical perspective.
Several countries around the world that are vital to their regions hyperinflated their currencies away to where now they're struggling with just operating on a day-to-day basis.
It's a real problem.
China's economic collapse is a problem where they were a positive force on global GDP growth.
We know that they're having an economic collapse.
Look at the Chinese bond market today.
The Chinese 10-year is comfortably below 2%, around 1.75%, and the Chinese 30-year is below 2%.
Think about that.
Think about what the Chinese bond market is telling you that the Chinese Communist Party won't tell you, telling you that China's in a recession.
So that's an enormous, let's just say, speed bump.
In the parlance of global economic growth, GDP growth, and what the U.S. has to do to overcome that growth.
But remember, it is vital to remember one thing.
People vote with their feet and their money.
The U.S. is 4% of the world's population.
We are 25% of global GDP, and we are 46% of global capital markets.
So we are the economic superpower of the world.
And when the rest of the world falters and fumbles, some of those people will buy Bitcoin, which is why you see it above $106,000, because they can't stand U.S. governance and values and everything that we've got going for us here.
And the rest of them will keep investing, I think, in U.S. dollar denominated assets.
We still have.
We have the most innovative population of any population in the world.
We have the best education system in the world.
And we have the greatest rule of law and, I think, human rights perspective of almost anywhere in the world.
So we kind of have it all going for us, Jan.
And I think that we need to remind ourselves that we are in the position that we're in, and we need to do our best to move forward despite these global You ask what the problems are.
There's a ground war in Europe between Russia and Ukraine that I don't see an off-ramp for.
I mean, if we think we're just going to draw some arbitrary line and sign another Munich agreement, you and I both know how that will turn out.
Israel, Iran, and Iran's proxies, there's no real off-ramp for that war at all.
I think that is going to rage.
And again, it's going to rage because We've had these built up animosities over time and long periods of prosperity have allowed both sides to, I guess, build armaments.
And now you have a scenario where Iran and its proxies have the gloves off.
And again, I don't see that stopping.
And invariably, in the next few years during this administration, most likely, you're going to see China take Taiwan.
And how do we react there?
So those are enormous geopolitical stumbling blocks to a beautiful growth story.
Well, and I want to mention these values of freedom, democracy, and so forth, probably the best opportunity for America to enshrine these and kind of live by example.
Yes, I agree.
Well, Kyle Bass, it's such a pleasure to have had you on.
It's great to be here, Jan.
Thank you all for joining Kyle Bass and me on this episode of American Thought Leaders.
I'm your host, Jan Jekielek.
Export Selection