China has rocketed from nowhere to the top of the economic heap in almost no time. The result is a spectacular, dangerous mess of an economy that is already falling apart. Industrial production is down, GDP growth is expected to slow to “only” 8 percent in 2012 (last time it was lower: 1999) and it is facing a China-sized real estate bubble. How well the Communist government responds to these capitalist problems will have a huge impact on the global economy in general–and your business in particular.

Here’s the problem: Residential real estate construction now accounts for nearly 10 percent of China’s total GDP. That’s equal to the entire agricultural sector. It is also 4 percentage points higher than real estate’s share of U.S. GDP at the peak of the U.S. housing bubble in 2005. Both the private and the public sectors have borrowed enormous amounts against assets whose price was wildly inflated – either by investor speculation or the corruption of the real estate assessors.

From 2006 to 2011, real estate values increased by as much as 60 percent in some cities. Earlier this year prices in some of the hottest markets had already dropped by 20 percent. Now the government is reporting that in November new home prices dropped in 49 cities, compared with 33 in October. Keep in mind that Beijing underreports all bad economic news, so the actual situation is probably worse.

The government’s fabrication of all economic numbers is a proven and accepted fact. Bloomberg tallied the debt disclosed by all of China’s 231 local government financing companies that sold bonds, notes or commercial paper through Dec. 10 and found they had borrowed $622 billion. This is more than the European bailout fund and dwarfs amount reported by the government and Chinese banks.

Loudi, home to 4 million people in Chairman Mao Zedong’s home province of Hunan, is paying for the project with 1.2 billion yuan ($185 million) in bonds, guaranteed by land valued at $1.5 million an acre. That’s about the same as prices in Winnetka, a Chicago suburb that is one of the richest U.S. towns, where the average household earns more than $250,000 a year. In Loudi, people take home $2,323 annually.

According to the IMF in June China’s domestic loans equaled 173 percent of GDP. Earlier this year, Beijing got so worried about this that it moved more than $300 billion of local government debt on to the national government’s books. Unfortunately, the government’s bailout may have just emboldened localities to borrow more.

Because China is the world’s largest creditor, there is no chance of a default. However, the more money the government has to divert to debt, the less it has to buy the debt of over-leveraged nations like the U.S., Greece and Italy. Also, it means less spending money for China’s enormous middle class (roughly equal to the entire U.S. population), which will slow the nation’s economy even more.

The reason for these problems is simple: China lacks both an independent judicial system and the government policing needed to promote fair and honest markets. Contract law is at the heart of a capitalist system and China’s enforcement of these laws is as corrupt as every other aspect of the government.

The expectations of China’s citizens have risen along with its economy. They have only seen the expansion side of capitalism. Ironically, the Communist state that used to guarantee everything from housing to health-care now has few social safety nets. How well Beijing manages this period will determine the success of the regime and the world’s economy.