Submitted by Investing in Chinese Stocks
China Properties Group (1838.HK) doesn’t like the current macro environment.
The Federal Reserve monetized debt. It took existing debt and swapped it for Federal Reserve notes. The effect was not a resumption of credit growth to pre-crisis levels because banks create new money when they create new credit. Even with massive federal deficits in the wake of the 2008 crisis, deflation in the financial and household sector overwhelmed credit growth. As the federal government eased its credit growth, the economy barely picked up the slack. Credit growth remains at levels associated with recessions prior to 2008.
The Federal Reserve did achieve a transformation of debt into equity. Instead of making new loans, money flowed into stocks. The wealth effect caused by rising stock prices is a fraction of the wealth generated by productive credit creation. How much money flowed into stocks? Until the 2016 presidential election, the U.S. stock market moved in lock-step with the Federal Reserve’s balance sheet, so much so that the chart below only has one axis. The percentage changes in the Fed balance sheet and S&P 500 Index are too close to be a coincidence.
How did market participants behave in response to Fed policies? First they expected hyperinflation. Commodities ran up into the first inflation hysteria of 2011. Then it all fell apart. Inflation was forecast again in 2014. Then it all fell apart. Inflation was forecast again in 2017/8 and we don’t have the full results yet, but the gold market is telling me it’s all falling apart again.
Aside from betting on inflation, hot money poured into emerging markets. Money flowed into China. The Chinese growth story fell apart in 2011, 2014 and again in 2018. Resource exporter Brazil saw its currency tumble and it may be headed lower still as another EM crisis forms.
Most importantly, emerging markets inflated like crazy and in countries such as China, if the private economy wasn’t willing to lend and borrow, the government forced state-owned banks and companies to do it. China’s M2 money supply growth matches that of Turkey. The first chart shows GDP + CPI growth in Turkey along with M2.
The second shows the same for China.
Economic growth makes up substantially more of China’s nominal GDP increase and that is reflected in a stronger economy, but the growth of credit relative to nominal GDP is similar in both countries. The relative strength in China is wholly dependent on the quality of that GDP though. If you believe GDP is overstated or of low quality (ghost cities), the strength starts fading.
Nobody in the world wants to pay the price of their errors. The solution everywhere is trying to add more debt to overly indebted nations, economies, corporations and consumers. For various reasons including demographics and absolute debt levels, the U.S. (in aggregate) refused. American banks retreated from eurodollar funding after 2008 and the Europe after 2011. The financial system is moving in a deflationary direction, but “everyone” believes inflation is right around the corner because central bank policies are laying the groundwork for higher inflation. The flaw is there’s no catalyst. Base money isn’t multiplying into new credit. Each round of QE (and the Chinese stimulus burst in 2016) is better understood as preventing a deflationary collapse.
Europe and the United States could turn “Japanese,” but as I wrote back in 2012 and still believe:
I do not expect a Japan scenario for the West, it will be far messier because the culture and political systems are more volatile.
We are already seeing the political breakdown. The U.S. and Europe cannot continue post-2008 economic policies for another decade and not see their political institutions totally transformed. Whether first by political or economic forces, the current path will be broken. Eventually all nations will pay a price for poor decision making over the previous 40+ years. It is not impossible that number will eventually increased 10-fold, as 400+ years as modern belief systems fall apart.
For today, however, it still looks like emerging markets have made the larger error in the short-term. They are heavily “short” dollars and the Federal Reserve isn’t interested in helping. Moreover, neither are the emerging markets.
Chinese Ambassador to the United States Cui Tiankai said here on Thursday that China would not accept a Plaza Accord imposed on it.
He made the remarks while addressing a working lunch of roundtable discussion that focused on the topic of “Next Steps” at the Center for Strategic and International Studies (CSIS), a Washington-based think tank.
“On what to do next, for China it is very clear,” Cui said. “I wish to advise people to give up the illusion that another Plaza Accord could be imposed on China. They should give up the illusion that China will ever give in to intimidation, coercion or groundless accusation.”
It is true the Plaza Accord artificially inflated the yen, but it is important not to lose sight of the fact that Japan had poor economic policies.
The question is, however, was the Plaza Accord really something imposed upon Japan against its will by the US, like many people think?
Historical facts suggest otherwise.
In fact, back in the mid-’80s, Tokyo was as eager for the Plaza Accord to be signed as was Washington, because at that time the US Congress, dismayed at the country’s widening trade deficit with Japan, was already working on a bill that, once passed, would impose punitive tariffs on Japanese exports to the US.
Fearful that it might lose the irreplacable American market, the Japanese government was therefore more than willing to allow the yen to appreciate in return for the withdrawal of that bill.
Also, Japan was hoping to adjust its economic structure, stimulate the domestic economy and reduce its overreliance on exports.
Whether the appreciation of the yen is a direct cause of Japan’s subsequent recession remains a subject of dispute.
That’s because, while the rising yen led to a real estate bubble in Japan, the rising Deutsche mark didn’t lead to an economic bubble or a recession in Germany.
The context of the Plaza Accord was a soaring U.S. dollar.
Bringing Socionomic theory into it, I expected a big run in the U.S. dollar in part because I do not believe there will be international cooperation. The U.S. and China will not agree to a new Plaza Accord and the euro might be losing members.
Political intervention won’t stop the rise of the U.S. dollar. Central bank intervention won’t work either because if the Fed is cutting rates, it means the global economy is weakening and bond prices are probably rising (if they’re falling its an even worse scenario for everyone). The U.S. dollar will rise as more “short dollar” positions blow up.