A Credit Crunch with Chinese Characteristics

Great article today in the FT by Simon Rabinovitch in Beijing on the recent spike in short term RMB interest rates. No doubt man will fail to spot the significance of this, but for those with short memories, a spike in USD short rates is what killed Lehman. Why? Because banks borrow short and lend long, running a maturity mismatch between assets and liabilities. For Chinese banks right now any loan they haves de at less than 8% (and that's likely to be most of them) is losing them money.

This is unlikely to end well. 

I've said all along that governments splurging cash they don't have to alleviate the credit crunch will only put off the day of reckoning, not avoid it altogether. And when it arrives, the bigger the splurge the bigger, the headache.

(Before anyone says these are the Chinese banks not the government, they are majority government owned and went on a huge lending spree from 09-11 under government orders, mostly to local government special purpose vehicles with no assets to their name to finance questionable infrastructure projects. When the collapse comes it'll be as fast as you can spell Ponzi).

UK

Car sales are up, inflation is low, employment seems to be holding up, growth is grinding higher, Mervyn King has successfully kept sterling down, trade and exports seem to be growing, the labour market is the most flexible in Europe, and many Europeans are running to the UK from rising taxes at home. Cautious optimism is warranted.

China. I hate to say I told you so, but....

From Bloomberg.  "China’s trade, inflation and lending data for May all trailed estimates, signaling weaker global and domestic demand that will test the nation’s leaders’ resolve to forgo short-term stimulus for slower, more-sustainable growth.

Industrial production rose a less-than-forecast 9.2 percent from a year earlier and factory-gate prices fell for a 15th month, National Bureau of Statistics data showed today in Beijing. Export gains were at a 10-month low and imports dropped after a crackdown on fake trade invoices while fixed-asset investment growth slowed and new yuan loans declined."

Why would you believe anything unless it comes from a truly independent statistical organisation, and especially when the numbers come from a one party state whose government has explicitly stated that they aim to maintain power for all eternity.

Conspiracy theory. BOE, MPC, ECB, QE, £, € and other acronyms

In the corridor outside the Bank of England Monetary Policy Committee meeting room. 

Mervyn: right guys, before we go in and the recorder gets switched on I'd like to have a quick word. The economy is still clearly a mess, though maybe slightly less of a mess than it was. It's certainly not ready for any tightening - it'd kill the bond markets and  the currency would rally if anyone thought we were going to do anything rash, but we're already pretty much maxed out on bond buying and cutting rates when no one is lending anyway is just pushing on a piece of string. The only help we can really provide is to keep the currency weak, but we're not allowed to say that out loud and unfortunately the yanks and the japs have had the same idea - and both have more firepower than us. Fortunately Europe's still refusing to play the QE game, and they're our biggest trade partner, so we can certainly target them. So here's the plan. 

I'm going to propose we do more QE and claim its to support the recovery. You and you (points at random at two of the others), you vote with me. Everyone else votes against. Then we appear to still have an easing bias, the currency stays down against the Euro and everyone wins without us actually having to do anything. 

Everyone except the Europeans obviously (cue evil laughter from all). 

Ok. Everyone clear? In we go then. 

China slowdown

Today's numbers show an unexpected trade deficit of $1.6bn for Indonesia, and the HSBC PMI for India is showing a contraction. Ships are queued up off Singapore, and the A$ (traded by many as a proxy for China because of Australia's huge exports of raw materials) is falling as the central bank is forced to cut rates to prop up the economy.

Yet somehow China is still supposed to be serenely cruising along at 7.5+% growth for now and all eternity.

Hmmmmmm....  Something is rotten in the State of Denmark.....  Or whatever the quote is.

KEEP CALM AND STAY LONG BONDS

Much is being made of recent sell-offs in government bond markets across the world. With the exception of Japan, which is a disaster waiting to happen as i have mentioned before, I would suggest there is no reason to panic.

It seems the fear started with comments from the Fed, firstly via Bernanke and then from the Fed minutes suggesting that it may be time to start planning to scale back the $85bn a  month in bond purchases currently being undertaken. Not end the purchases, but scale back. It would appear many market participants had assumed this was never going to happen. How could they be so stupid? It has to happen at some point, and when it does it is a GOOD sign, as it means the Fed finally judges that the US economy is able to stand on its own feet without the need for constant support. I think however, that the markets reactions over the past 10 days or so show that we are nowhere near that point. The Fed will not want to come out and comment or act on the current gyrations if it can avoid it, and will presumably hope to simply let the current wobble in sentiment fade away, but if necessary they will either talk or act to calm markets and restore order. They need a significant drop in unemployment before there is any move to end QE, and that doesn't look likely to happen in a hurry.

The spillover into other markets looks even stranger. The US is the only economy with enough internal demand and trade to stand alone and stop QE. The UK can't without recovery in Europe, and the Europe haven't even started true QE yet, let alone be close to stopping it.

And for anyone who thinks China and Asia are going to lead a recovery, here is a photo from this morning of the ships in the holding pattern off Singapore's East Coast (not sure how well a panorama photo will work on a blog - hopefully you can click it to see more detail). Lots of ships is a bad sign. These are ships that have unloaded a cargo but have not taken anything new on and are simply waiting for a job. Many of these ships  have been here for weeks waiting for somewhere to go. Trade is stagnant.

Rates are going nowhere for a long time. Stay long. If you can, get longer.