Hysteria over China's economy has become ridiculous
Date January 29, 2016 - 3:25PM
Ambrose Evans-Pritchard
China has accused George Soros of a speculative attack on its currency. The claims are complete fiction. Photo: Daniel Acker
Hysteria over China has reached the point of collective madness.
Forecaster Nouriel Roubini said markets have swung from fawning adulation of the Chinese policy elites to near revulsion within 12 months, and they have done so based on a string of misunderstandings.
The Chinese themselves are being swept up by swirling emotions. The state media has accused hedge fund veteran George Soros of attempting to smash China's currency regime by "reckless speculation and vicious shorting".
"Soros's war on the renminbi cannot possibly succeed - about this there can be no doubt," warned the People's Daily. Articles are appearing across the world debating whether Mr Soros and his wolfpack will succeed in doing to the People's Bank of China (PBOC) what he did to the Bank of England in 1992.
In fact, Mr Soros issued no such "declaration of war", and nor is he so foolish as to take on a foreign exchange superpower with $US3.3 trillion ($4.7 trillion) in foreign reserves.
I was at the dinner in Davos where he was speaking. What he did let slip is that he had been shorting some Asian currencies - the Malaysian ringgit perhaps, an old favourite?
So let us return to reality. The economic facts are in plain view. China is not slowing. It is picking up slowly after a "recession" in early 2015.
Car sales give us a glimpse. They collapsed early last year and touched bottom at 1.27 million in July. Sales have been rising every month since, surging to a record 2.44 million in December. New registrations were up by 37 per cent for GM, and 36 per cent for Ford.
The economy did indeed hit a brick wall early last year due to a fiscal shock and ferocious monetary tightening. That was the time to lambast the Chinese authorities for policy errors, and some of us did so.
Capital Economics estimates that growth slowed to 4 per cent based on its proxy indicator, but the pace has since nudged up. An economic rebound is baked into the pie. Fiscal spending jumped 30 per cent in October and November. New credit - including bonds - reached a 12-month high of 14.4 per cent in December.
The Politburo is back to its bad old ways. "Despite talk of deleveraging, credit growth continues to expand far more rapidly than GDP growth because, quite simply, they are not willing to tolerate any slowdown," said Professor Christopher Balding from Peking University. "Right now, I think it highly unlikely that Beijing would let any financial institution of significance collapse. They won't let any firms collapse, much less the stock market. Their entire strategy appears to be paper things over and deal with it later," he said.
"The current leadership is acutely aware of its place in history and the comparisons to the USSR. They are absolutely determined to not suffer the same fate."
China's Achilles heel
Yet there are limits to what the Communist Party can achieve by flicking its fingers at this late stage of China's $US26 trillion debt debacle. The Achilles heel is capital flight.
The authorities botched their switch from a dollar peg to a trade-weighted currency basket in Augusty, and botched it again in December when they fleshed out the details. The result was an exodus of money in two big bursts. Both Chinese and foreign investors concluded that this was camouflage for devaluation.
Fang Xinghai, a top policymaker, admitted in Davos that communications had gone horribly wrong. "We're learning," he said. He insisted that the Communist Party is absolutely committed to the defence of its new basket. "It is the decided policy of China," he said.
The facts bear him out. JP Morgan estimates that the authorities spent a record $US160 billion defending the yuan in December.
Mr Fang said a country with a current account surplus of $US300 billion does not need a devaluation, and it would undermine the planned shift to consumption-led growth in any case.
Crucially, his country funds itself from internal savings, unlike the usual suspects in emerging markets. "If China was relying largely on foreign capital, you bet, any major financial risk could derail our growth. But China is different," he said.
What he omitted is the painful fact that running down reserves at the current pace entails monetary tightening, compounding the internal credit crunch. This is the Impossible Trinity. A country cannot manage its currency and keep control of monetary policy at the same time with free capital flows.
Haruhiko Kuroda, the Bank of Japan's governor, said one must give. He suggested that tougher capital controls "could be useful", the lesser of evils.
The "Trinity" is the nub of the issue. It is this that threatens to overwhelm the PBOC and ultimately force China to devalue, setting off a pan-Asian currency crisis to dwarf 1998, and transmitting a wave of deflation through the world.
So the key question is the scale and make-up of the capital outflows. Data from the Bank for International Settlements show that the foreign liabilities of the Chinese companies dropped to $US877 billion in September from a $US1.1 trillion peak a year earlier. In other words, the Chinese are paying off dollar debts as fast as possible in advance of rate rises by the US Federal Reserve.
Bhanu Baweja, from UBS, said the repayment of foreign debts accounted for almost all the capital flight in the third quarter. The outflows are therefore arguably harmless, potentially a one-off effect that will play themselves out.
Views differ. The Institute of International Finance (IIF) in Washington estimates that $US676 billion left China last year, and that only half of this was used to pay off debts or balance books. There has been a surge in "errors and omissions", a cover for capital flight through false trade invoices.
Foreign liabilities are falling, especially in dollars.
The IIF said Chinese companies are now far less exposed to foreign currency debt. There is a fair chance that "tactical" outflows will slow down, taking the pressure off the central bank. Nevertheless, the risk of a broader rush for the exits has "materially increased".
There is a world of difference between precautionary moves to cut dollar debt, and a mass exodus by Chinese and foreigner investors because they think Beijing has lost control. Exactly which of these two dominates will shape world events this year.
Any hint of relative optimism on China in the currently wildly polarised mood can easily be misunderstood. My view has long been that China has left it too late to wean the economy off debt-driven growth and over-investment in industry, and will therefore drift into the middle-income trap.
Since China's banking system is an arm of the state, bad debts will be rolled over in perpetuity. It will be a denouement "a la japonaise", a landscape of soporose companies and lost dynamism.
The Communist Party may have bought another year to 18 months. If so, the reckoning has been delayed again. The world will muddle through. Optimism means nothing more than that.
The Daily Telegraph
Read more: http://www.smh.com.au/business/china/hysteria-over-chinas-economy-has-become-ridiculous-20160128-gmgjja.html#ixzz3yfqzGhCi
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