Anthony Bolton, the best-known UK fund manager of his generation, was in no doubt about it. China was the "investment opportunity of the decade", he said in 2009 as he came out of a prosperous retirement to prove it. He went to live in Hong Kong and immersed himself in the China miracle as he managed a specially created vehicle, the Fidelity China Special Situations investment trust.
But every opportunity comes with risks. From one view, China's economic power will be to the 21st century what Britain's was to the 19th and that of the United States was to the 20th. Yet with China - through western eyes at least - nothing is simple, and from another angle the picture splinters into a myriad of doubts, starting with concerns about its banking system.
China will regret its schadenfreude
China's leaders would not be human if they did not enjoy some aspects of the financial crisis that has gripped the developed world for much of the past four years. After all, they had been lectured silly about the merits of free-market capitalism and told that the state-sponsored variety, while all very well in the early stages of development, would place strict limits on China's ability to grow.
Just look at it now. While growth in the developed world has spluttered these past four years, China's output continues to motor ahead, rising by about 10 per cent a year. And if the developed world's recovery remains uncertain, one certainty is that there can be no complete revival without China's help. That much we have already witnessed - a major factor behind the improvement of the west's export industries in 2009-10 was the $260bn (£161bn) that was injected into the Chinese economy from late 2009.
The trouble is, that stimulus created as many internal problems as it solved. It encouraged China's local government - the arm of the state that runs the country day to day - to set up bogus companies and make loans using overvalued land as collateral; and it prompted excessive investment in fixed assets that may struggle to make an economic return. Noriel Roubini, a US academic known for his bearish inclinations, reckons that in 2010 investment in fixed assets accounted for more than half of China's output - a ratio that, in the long run, must produce "immense overcapacity and a staggering non-performing loan problem".
Not just that but, as China's rulers kept interest rates lower than inflation, in effect they encouraged the development of a shadow banking sector over which they have little control. So much so that, according to James Kynge, a veteran China watcher, the most profitable activity now undertaken by state-controlled banks is lending to the shadow banks, thus helping to sustain the bubble in property prices.
This sounds eerily like a description of the US and UK banking system circa 2007, with its plethora of special-purpose vehicles, and we all know what happened next. Dont expect anything so dramatic in China. Then again, the Chinese response would surely be more like Japan's circa 1990: a state of denial about non-performing loans that left banks petrified and contributed greatly to Japan's so-called 'lost decade'. At least Japan was wealthy by the time it ossified. China hasn't got nearly that far.
China will fall into a middle-income trap
It's a well-known phenomena - a nation's prosperity rises so far, but no further. As it loses the benefits it derived from piggy-backing on the technology of rich nations and the use of its reservoir of cheap labour, it fails to capture the gains that accrue to those that can truly innovate. It happened to much of South America from the 1930s to the 1950s; it happened to eastern Europe in the 1960s. It may soon happen to China.
On some calculations, China's income per head is still only about $5,000 a year. That puts it in the lower-middle bracket, so no need to worry, you might think. However, on other calculations China's GDP per person is already much higher and a paper by a trio of academics suggests that developing nations are most likely to fall into the middle-income trap when income per head hits $16,750. China could be on course to break that figure in 2015. At that level, growth rates in income tend to drop off sharply. For a clutch of emerging economies that the academics surveyed, growth fell from an average of 5.6 per cent a year to 2.1 per cent.
China has defied predictions of a slowdown before, but the worry is that many commentators still assume growth rates that are unrealistically high. The International Monetary Fund, for example, projects growth at 9 per cent a year until 2016.
Even if China's performance slipped slightly below expectations - say, to 7 per cent - that could cause big problems, from social unrest to major political breakdown. Sure, social unrest in China is hardly new. But there are reasons to fear that it will get worse in the coming years, starting with the inability of the nation's leaders to cope with change.
China's rulers just don't get it
Call it the Happy Girl syndrome - Chinese people love to vote, but rarely get the chance. Now even more rarely following the decision by who knows who to close down a hugely popular TV talent show, Happy Girl. The programme's crime - apart from being fun and lively - was that it encouraged its viewers to vote. First, they voted via text messages. When that was deemed far too participatory, voting was restricted to the show's studio audience. By September even that was deemed too much. So Happy Girl will be replaced, according to the state-owned television company concerned, by morally inspiring subjects such as "practical information about house work".
But axing Happy Girl is just another symptom of something China observers see more frequently – from the arrest of the controversial artist Ai Weiwei earlier this year to the revival of the cult of Maoism - a regime that's increasingly authoritarian.
The best guess as to the cause is nervousness in the upper echelons of the Chinese Communist Party as China heads towards the most sweeping changes to its leadership in 10 years. In 2012 and 2013, China's president and party leader, Hu Jintao, will be replaced most likely by his deputy, Xi Jinping, and prime minister Wen Jiabao will probably be succeeded by his number two, Li Keqiang. If that all seems orderly, it takes no account of the fact that these changes will send ripples throughout the leadership of China's government, ruling party and military and all the uncertainty that brings. Nor does it help that past changes of leadership have often been scarred by drama. True, the last big change in 2002 passed peacefully. But in 1976, following the death of Mao Zedong, there was a coup, and there was mass unrest in 1989, the year of the Tiananmen Square protests.
Besides, China's next set of rulers may resemble an oligarchy of the privileged. 'The princelings', as they are called, descend from the founding fathers of Chinese communism (for example, Mr Xi’s father was a hero of Mao's Long March) and they look set to increase their influence in 2012 and 2013. The worry is that the princelings appear to be more like the Marxist-Leninists of old than the present rulers; at least in their inclination towards populism, their contempt for the rule of law and their assumption that they know best.
That may not be the best set of credentials to lead a people who will be increasingly affluent, yet increasingly - well - bolshy. To understand why, let's start with China's labour market.
Xi Jinping is likely to become China's next president and party leader.
China's workers are revolting...
It is the workshop of the world and has the manufacturing workforce to match - 112m at the end of 2006. Compared with their counterparts in the west, Chinese workers are still cheap, but not as cheap as they once were. From 1995 to 2004, labour costs in China tripled. Happily, however, productivity quintupled and, as a result, unit labour costs fell by 43 per cent.
Repeating that trick won't be easy, especially as China's manufacturing workers are becoming more militant and are being drawn from a pool that's drying up.
Strikes - especially at plants owned by foreigners - are becoming more common. Last year, a state-owned magazine, Outlook Weekly, reported that in the first half of 2009 there were 30 per cent more labour disputes than in the previous first half. The same magazine reported that, in 2008, 280,000 labour disputes found their way into China's courts. It's likely China's workers feel aggrieved because pay as a share of national income has fallen steadily for the past 20 years. They may be emboldened because new labour laws in 2008 gave them extra rights. Their aspirations may be getting higher and they are becoming a rarer commodity.
Calculating China's surplus labour supply - the potential urban workers who still languish in the countryside - is a game that economists play. Their estimates range from zero to 70m. But, wherever the true figure lies, no one questions that the number is shrinking. And that tells us that China's workers will be more difficult to control by company bosses whose incentives are all mixed up anyway.
... and China's bosses are little better
While many of them drive expensive cars and live in designer-branded luxury, it's precarious being the boss of a small company in China - not least because it's still not entirely clear that private companies employing more than eight people have the right to exist. Obtaining finance is always tricky and depends on contacts with business friends more than state-owned banks, and there is always the worry of running foul of local party officials and ending up shot. An odd situation, perhaps, given that the party itself boasts that there are almost 40m private companies in China employing 92 per cent of the workforce. Odd but true. This years star entrepreneur can always become next year's pariah.
This status - somewhere between national hero and whipping boy - may engender a certain outlook in China's Mittelstand; an inclination to bend the rules and be cynical about contracts, plus a reluctance to make the kind of commitments in capital and in people that develop innovative products, build brands and, in short, create wealth.
It is an attitude that is examined in detail by Paul Midler, a US middleman working in China, in his 2009 book, Poorly made in China. While companies in the west espouse the virtue of continuous improvement, Mr Midler found that too many Chinese companies practice the reverse - what he labelled "quality fade". Innovation in Chinese factories turned to cost cutting in order to make unprofitable contracts viable. Or worse, says Mr Midler, some companies practise "factory arbitrage" where they win contracts to make high-value products then make parallel fakes for buyers elsewhere.
Such shortcomings could be labelled growing pains - part of the learning cycle that emerging economies must go through. But it's hardly the way to create the world-beating companies that investors like best.
It goes a long way to explaining what even the most ardent China bull is willing to admit: that Chinese corporate governance is frequently bad and occasionally appalling, even among companies that purport to have embraced western-style shareholder democracy and listed their shares on non-Chinese stock markets.
China's apartheid
Beijing and Shanghai don't have the sprawling, stinking shanty towns that define Mumbai and Rio de Janeiro, but they do have their rat tribes. That's the colloquial label given to the migrants who live in the cities' basements. Or they did - because, in Beijing at least, from last year the city's authorities have done their level best to move the rat tribe on while also banning migrants from owning homes or even cars.
The underlying problem is that China's migrants - all 200m of them - should not be where they are, which is almost certainly in the cities. Since the control-freakery of Mao's early rule, China has had a registration system that designates its citizens as either urban or rural, and attaches separate rights to each.
However, in the mass urbanisation that has been a vital concomitant of China's growth, the so-called 'hukou' system causes as many problems as it solves. Effectively it creates a vast pool of second-class citizens - peasants living in the cities - who provide the cheap labour but are excluded from the property and welfare rights that registered urban dwellers enjoy. The same system gives peasants the rights to farm land in the countryside, but they can't sell or mortgage it, so that locks up huge amounts of land in small, under-exploited parcels.
Everyone knows that the system is unfair and inefficient and everyone knows that it has to change. But cities would struggle to afford the obligations that liberalising the hukou would impose upon them. Urban dwellers would deeply resent their loss of relative privilege. And many peasants would not want to surrender their rural status (that could mean a loss of land, paying more taxes and tighter regulation over China's one-child policy). The default solution, then, is to do nothing.
But China's quasi-apartheid system will have to be tackled if the country is to use its resources – both land and people - efficiently. If it isn't, then China may become even more unequal than it is already.
Chinese inequality
And that's very unequal. Basically, city dwellers have got rich, while the peasants have stayed poor - or, relatively speaking, have got poorer. In 2009, according to China's National Bureau of Statistics, annual income for city dwellers was $2,525. That was three times the average for a peasant and the gap was its widest since 1978. Put another way, according to the World Bank, in 2009, 99 per cent of China's poor - ie, those living on less than $2 a day - were peasants. True, some were peasants who had gone to the cities and failed. But, even excluding those, the World Bank reckoned that 90 per cent of the poor lived in the countryside.
Many rural authorities are too poor to provide their children with a decent education. This matters because, more than anything, education pays dividends as societies get wealthier. Growing wealth stimulates a labour market where the best educated get the best jobs and salaries diverge. But China's de-centralised system risks locking in levels of inequality that, at worst, are destabilising. The signs are there: in 2000, only 18 per cent of students at Beijing University were from rural areas, whereas in the 1950s the ratio was over 50 per cent.
Such inequality in education is bad news, because soon China will need all the help it can get from its young people whether they come from towns or villages.
China will pay the price for its gendercide
They call them the 'bare branches', a phrase that's a rough translation of 'guanggun', but what it really spells is 'trouble'. The bare branches are the Chinese boys who will never have a wife, or at least not a Chinese wife.
Largely as a consequence of its one-child policy, combined with a cultural preference for sons, millions of baby girls have been killed, or aborted as foetuses. The outcome is that in China the ratio of baby boys to girls is about 124:100, according to the Chinese Academy of Social Sciences. This is so far above the natural ratio (about 105:100) that it can only be caused by gendercide. As a result, within 10 years China will have 30m-40m more young men than young women.
The adverse effects are already in evidence. One reason why China's newly affluent save too much, in the process delaying China's progression to a service economy, is because parents want to improve their son's chances of finding a bride by ensuring he comes with a bigger pot of capital. One solution might be to import lots of brides, but in a society as insular as China's, that will bring its own problems.
Perhaps China can put all these spare men in the army and send them off on missions of conquest. Flippancy aside, let’s be careful what we wish for - because its relations with its neighbours may be the biggest reason to fear for China.
China will be the new Germany
The Germany of 1914, that is. That was when the newly emergent power felt it was being denied its rightful place by the fading imperial power, Britain. As a result, Germany got up to all sorts of mischief, which led to one miscalculation too many and the First World War.
For Germany and Britain in 1914, read China and the US in 2011. And the parallel becomes even more tempting when you realise that in 1914 Germany and Britain were each other's biggest trading partner - just like China and the US today. In which case, it may be wrong to assume that mutual self-interest will prevent a destructive clash between the US and China.
The relatively good news is that this is a distant problem. China does not have the military might to cause trouble and, with spending of about $100bn a year, its military budget is less than a sixth of the US's. That said, it's more than twice Japan's and is rising by about 12 per cent a year, so China will surely start to boss around its neighbours more than it does already.
However, the real question is how long can China tolerate the US remaining the dominant military power in the western Pacific? Put the other way round: how can the US allow China to become that region's military power? Most likely, that question won't be the issue of the hour for many years. There are bigger military headaches – North Korea, Pakistan and Iran, for example - in the world right now. But, if it is, investors must hope they have already exited China.
And, on that ominous note, I'll stop. True, I could continue. I have only touched on lousy corporate governance. I have not even mentioned the problems of China's rebellious inner regions, its underdeveloped capital markets, or its only partially convertible currency. I could devote another feature to the issue of how - whatever the country's economic leaps forward - it is fiendishly difficult for investors to get reliable exposure to this progress in the form of listed securities.
The point is not to ignore or belittle China's staggering growth these past 20 years. The point is to question the assumption that China's growth is inexorable, its rise indubitable and its success inevitable - or that investors in the west would be amply rewarded even if those things did hold true. The point is to be sceptical - because scepticism serves the cause of good investment.
