Thursday, May 17, 2012

What's going on in China?

Some very strange things are happening in China, but the overall theme is:  Capital outflow.  The discussion is remarkably technical, but in a nutshell investors because of global uncertainty and apparent economic growth deceleration in China are looking to hold US dollars.

First, it would seem that the opening gambit is the deceleration in China's export machine -- America is limping along and Europe is at the edge of the abyss.. so the Chinese government's "usual" source of dollars is drying up (e.g. exporters).  More to the point those exporters now appear to be short US dollars.  While foreigners are finding fewer investment opportunities in China.

Now, China has an easy out, it could sell US treasuries and replace these IOU with American dollars (the same thing really), but China is reluctant to admit to this problem, because it could create a vicious cycle outcome with more people believing that there is an excess of Yuan.   BTW the impact of selling US-T bonds is serious for the Chinese growth story that the government is trying to keep up appearance.

Again, this is a very technical discussion that really missed the point of discussion.  What we are seeing here is an inflexion point in the Chinese economy.  Last year the informal banking system collapsed (mainly because of warranted government action), but now even the short term bill market is collapsing (discounting of receivables is down 90% -- which BTW is a wonderfully cheap way to finance sales activities).

Rumours that loans are being repaid (well ahead of schedule) and that China's four largest banks have seen no new net lending in Q1/2012 is a serious problem for China's growth story.  Again, normal western bubble concept don't really apply to China, since the bulk of China's borrowing is made by either local governments or by state owned enterprises -- the usual rules of creditworthiness are irrelevant.

The "problem" mentioned above is no so much a problem, but a reflection of several realities:  There's a shortage of USD, there's an excess of Yuan (no one wants Euros) and the Yen is at the end of its tether --
but probably still has so appreciation to go.  The story is two fold; China is slowing, the smart money is moving out of China (or at the very least -- not moving in anymore), but changing the China growth model has implications for the rest of the world:

(1)  Oil and commodity prices should drop over the next few months (China is not dying its taking a breather -- maybe a few months maybe more)
(2)  Canada and Australia are the two most exposed countries to a China slow down
(3)  America could benefit from the weaker oil price, every 1c reduction in the price of oil is a 0.1% stimuli to the American economy
(4)  All this has zero impact on Europe -- they live in their own autarkic world (most of the trade in internal to Europe)
(5)  Russia as another exporter of commodities may also suffer -- Putin may not have that much fun in 2013 afterall

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