The Treasury's latest semiannual FX report may have spared China the designation of currency manipulator (for now… in a new twist, there was a section dedicated exclusively to China in the Executive Summary, a clear signal from the Treasury that China is the disproportionate focus of the report stating that 'it is is clear that China is not resisting depreciation through intervention as it had in the recent past'), but the market was not as forgiving.
In the latest shock to Chinese confidence, overnight Chinese shares extended the world’s worst slump as the yuan touched its weakest level in almost two years, testing the government’s ability to maintain market stability and calm as risks continued to mount for Asia’s largest economy.
Two days after we reported that concerns about pledged shares, in which major investors put up stock as collateral for personal loans - a disastrous practice when stock prices are dropping - emerged as a key pressure point for China's market, overnight Bloomberg confirmed that "rising fears of widespread margin calls fueled a 3 percent tumble in the Shanghai Composite Index, which sank to a nearly four-year low as more than 13 stocks fell for each that rose."
The concentrated selloff, sent the Shanghai Composite down 2.9%, closing at session lows of 2,486, the lowest level since November 2014, as China's plunge-protecting "National Team" was nowhere to be seen.
Lots of stuff in the press about China and debt… and much of it casting doubt on the sustainability of China’s economic miracle – including its ability to continue as the major economic partner across Asia, Africa and the Middle East.
But first, a diversion… I got taken to task by a US chum yesterday for being pro-Trump in recent comments. Harsh. Whatever I think of him is immaterial. It’s the political process that got him there, the geopolitical forces disturbed by his actions, and the real market effects he creates that matter. Loathe him or loathe him… he’s creating winds that move markets. Markets are about politics.
During the late summer we were treated to an American Aircraft Carrier (the USS Harry S Truman) moored in the Solent at the foot of our garden. A Nimitz class CVA is a great example of power projection. But, historically, the American’s don’t achieve their decisive victories through military muscle. Where they attempt to do so – in Afghanistan, Iraq and Vietnam, for instance, they proved the ineffectiveness of using a multi-billion dollar missile against an AK47, and that motivated guerrillas will win every time.
It’s very interesting to compare and contrast Trump rhetoric. In the last few days he’s pulled back from criticism of Saudi prince/thug MbS. He’s unapologetically told the American people that Saudi is a very important source of big defence contracts creating US jobs – therefore he will deal with them. Saudi is not a real threat. At the same time, he’s saying nothing about US jobs he’s willing to trade-off thru his Economic campaign against China.
Where America wins is in terms of economic muscle. The Japanese knew that before Pearl Harbour 80 years ago, the Russians learnt it in the 80’s. And now the Chinese are being treated to a similar lesson today.
The US can withstand declining energy exports to China far longer than Xi can withstand real growth tumbling from the Party’s mandated 7% to closer to 5.5% (or whatever it really is). The government are combating weakness by letting the currency fall – courting further Trump anger at perfidious currency manipulators.
Analysts are looking at a potential cascade crisis in China: falling growth, declining house prices, rising personality cult of Xi, increasing unrest, demographic crisis, nascent corporate debt crisis, banking weakness, and loss of confidence in stock markets. Some of them conclude it’s a binary game China is bound to lose – and a collapse in China will have catastrophic effects on the global economy.
Today the main headlines are about burgeoning China debt over the past years – how much hidden regional government lending is hidden within the financial system and how much has been squandered. Its also about unreported corporate debt linked to regional government and how overextended banks and domestic lenders are to companies now facing slowdown. As the Chinese economy relies heavily on corporate investment for growth, any slowdown caused by a banking crisis or even retrenchment creates a perception of weakness. As I’ve said before, debt is needed to fuel growth, but when it takes over.. its never a good thing.
A China in crisis plays well for Trump, demonstrating the success of his economic campaigns. Sure, he can afford a few job losses, or, who blinks first? Xi knows China won’t win an economic battle with Trump’s US. What other cards does Xi hold? Not enough. Yet.
