25 August 2015

Seven things to read on China’s financial crisis


1. What has happened in the last 24 hours? – Bauke Schram, International Business Times

“The big slump came as the Shanghai Composite lost more than 8% on Monday, causing other stock markets to nose-dive as well. After the Dow dropped more than 1,000 lower, investors all over the world panicked, although many markets corrected themselves. On Tuesday, China’s benchmark index lost another 7.6%, falling under its 3,000 mark, seen as a psychological barrier, for the first time in 2015. In Japan, the Nikkei dropped almost 4%.

“The FTSE 100 rallied in early morning trading, up 1.5% after a 4.67% fall on 24 August, which has been dubbed ‘Black Monday’ because of the losses on global markets. Other European markets edged up again as well on Tuesday, although they did not repair all of the damage done on Monday. The pan-European index, the Stoxx 50, jumped by 3.2% in the first minutes of trading after suffering its biggest daily loss since September 2008 on Monday. Both Germany’s DAX and France’s Paris CAC 40 recovered slightly by gaining 1.4%.”

Markets slump as world realises main growth engine in hands of incompetent, secretive police state that thinks it can dictate equity prices

2. Asia’s richest man loses $3.6bn – South China Morning Post

“Wang Jianlin saw US$2 billion wiped from his stake in Dalian Wanda Commercial Properties, according to the Bloomberg Billionaires Index. Wang also lost nearly US$1 billion from his Shenzhen-traded Wanda Cinema Line, which fell by the exchange-exposed limit of 10 per cent yesterday. His fortune stood at US$31.2 billion after the decline.

“Twenty-four billionaires saw their wealth fall by more than US$1 billion on Monday.”

3. Fears for the Chinese 200m-strong middle class – Guy Sorman, CapX

Most people won’t mind that the world’s plutocrats are taking a bashing, but the concern for the Chinese Communist Party, as CapX writer Guy Sorman pointed out earlier this month, is the future of its burgeoning middle class. China’s $8 trillion stock market has 90 million individual investors, although other estimates say this includes only 2% of the Chinese population.

“The new Chinese middle class born of the economic growth over the last 30 years is made up of around 200 million people. Unlike in the West, these people do not enjoy collective health insurance, public pensions, or free education. In China, everyone pays their own way, while in the West the government saves money for you and, more or less, redistributes it accordingly.

“When the Chinese middle class and the most modest members of society receive a regular income, they save around half to finance their  healthcare, education and retirement. The Chinese have very little choice when it comes to investing their savings. Banks offer interest rates lower than inflation, and investing abroad is an option only open to the Communist aristocracy.

“For rational law-abiding Chinese the only choices left are between the Shanghai and Shenzhen stock exchanges and investing in real estate. The new Chinese cities and their empty residences and offices act as the country’s piggybank. If the real estate bubble bursts, the Chinese middle class will be bankrupt. Many China watchers have heralded this collapse for the last ten years, but have for now been proved wrong. The rural exodus and booming growth have turned these buildings and fledgling cities into profitable investments. At least so far.

“If growth slows and the rural exodus peters out – which seems to be increasingly the case – these buildings will remain empty and valueless. The domino effect will mean that individual investors will then be unable to pay for their healthcare, their children’s education, and can kiss goodbye to their pensions. The same goes for the stock exchange.

4. Could the crisis spread beyond China? – Elliot Wilson, The Spectator

Last year, Beijing was the largest sovereign importer of crude oil, copper and soy beans. It is a voracious buyer of French cheese, Scottish salmon and New Zealand lamb, and the world’s biggest consumer of cars and smartphones. There is virtually no industry that it does not influence, nor any multinational that does not include Chinese land, labour or capital somewhere in its supply chain.

“We simply don’t know what a slump in 21st-century China would look like. Will it be short and sweet, allowing the economy to cleanse itself of a huge backlog of toxic bank loans before emerging invigorated? Or will it mark the beginning of the end of the Chinese dream: the moment when, from Washington to London to Tokyo, we see that the new emperor really has no clothes?”

Analysts at Capital Economics, however, say the fears are overblown:

“The collapse of the equity bubble tells us next to nothing about the state of China’s economy. In fact, recent data have been more positive than the headlines might suggest, with large parts of the economy still looking strong. China also have the luxury of still being able to loosen policy if necessary.”

It’s also worth bearing in mind that notwithstanding efforts to prop up the Shanghai Composite Index, it is no lower than what it was in December last year. The Chinese government has committed to keep the index above 3,000 points. At close of play today, it settled below that mark at 2,964. If this is an indication that Beijing is willing to let the market settle naturally, we might see in the coming days and weeks how much further it will fall.

Together, China, India and the United States were responsible for 80% of global growth in the first quarter of 2015, with the majority being generated in China.

The concern is that if the crisis did affect Europe or the US in any serious way, governments there would have very little ammunition to tackle any impacts on the real economy. Interest rates couldn’t be meaningfully reduced, the benefits of QE appear to have been exhausted, while market tolerance for large amounts of fiscal stimulus would be limited.

5. Should we be worrying in the UK? – Andrew Lilico, Daily Telegraph

“We in the UK should not yet worry overly about these recent events. Stock market crashes occur far more regularly than recessions and are not particularly reliable indicators of them. The great economist Paul Samuelson famously joked that: “Wall Street indexes predicted nine out of the last five recessions”. The run-up to the 2008 crisis was not a day or a few days of bad financial markets. It involved serious problems in credit markets for the previous sixteen months.”

“Earlier on today apparently, a woman rang the BBC and said she had heard that there was a hurricane on the way. Well if you are watching, don’t worry there isn’t”

That was Michael Fish in 1987. What many people don’t recall from that Michael Fish incident was that he was correctly predicting the path of a different storm brewing in the Western Atlantic that hit France and Spain.  It was the rapidly deepening depression from the Bay of Biscay which he missed. The Black Swan. It may be so that the crisis emerging in China will be more or less contained within its borders. Or it may expose the fundamental weakness of a global economy built in recent years on a commodity boom in emerging economies and real estate in China.

6. Are Western banks exposed to China? – Wayne Arnold, Wall Street Journal 

Wayne Arnold reported last year that the United Kingdom held 28% of China’s then $796bn in offshore loans, the largest share – by far – held by any single country. HSBC and Standard Chartered are the most exposed. Foreign lending has increased rapidly in recent years, as Chinese firms responded to tight lending rules – including a cap on the loans-to-deposit ratio.

Of the 25 countries whose banks report lending data to BIS, the biggest surge in new loans in the year ended March 31 2014 — $50 billion — came from banks based in the United Kingdom, a group that includes HSBC and Standard Chartered, both British-domiciled banks with most of their assets in Asia. French banks were the second-largest source of new credit, extending $20.6 billion in new loans to China. Japanese banks were third, raising their exposure by $15.8 billion over the same period.

“China’s overall external borrowing remains relatively small and economists say it poses little threat to its economy or financial system. With nearly $4 trillion in foreign-exchange reserves and tight control over flows of money in and out of the country, China’s central bank is in a strong position to offset any sudden retreat of foreign credit, they say.”

Despite today’s move to ease lending restrictions on commercial banks, the firepower that the Chinese Central Bank has to defend its banks should a crisis of confidence affect then ought to be enough to assure investors that their money is safe.

7. Reasons to be cheerful – Matt Levine, Bloomberg View

Matt Levine at Bloomberg View finds 10 positive aspects of crash in US financial markets.

“As Warren Buffett once said:

‘Practically anybody in this room is probably more likely to be a net buyer of stocks over the next ten years than they are a net seller, so everyone of you should prefer lower prices. If you are a net eater of hamburger over the next ten years, you want hamburger to go down unless you are a cattle producer.’

“Felix Salmon echoed Buffett’s point today: “Don’t think of this as a stock-market crash. Think of it as stocks going on sale.” In the long run, for most of us, this is clearly correct. Of course if you view the stock market as an accurate prediction of the future earning power of the American economy, this calculation gets more complicated, but there is no obvious reason to do that. Remember what Shiller said.”

Zac Tate is Deputy Editor of CapX