Will asset bubble go the Japan way?

Striking parallels between China today and Japan in the late 1980s suggest China faces similar risk as Japan did then. The risk of a sharp correction in China's asset markets when the economy slows down should not be overlooked, though it would not necessarily lead to a prolonged and deep economic recession as it did in Japan in the 1990s.

Bank loans are/were growing faster than nominal GDP growth in both the countries. In addition, lending decisions are/were not always based on creditworthiness. Although in the past there have been efforts in China to reduce State-directed bank lending, events in 2009 showed that State moral suasion remains influential in banks' lending decision. As in China today, strong loan growth to the real estate and construction sectors was observed in Japan in the late 1980s.

China's Shanghai A shares were trading 25 times and Shenzhen A shares 45 times their price/earnings (P/E) at the end of last month. The P/E of Japanese equities in 1990 was 50 times. In comparison, the S&P 500 P/E is currently about 17.5 times. Also, Japan's real estate prices rose 150 percent between mid-1986 and mid-1991. Prices of second-hand house prices in Shanghai rose by about 70 percent in 2004-09.