The chess genius of General Wang
When it comes to ‘rates’ generally – interest on capital, debt costs, sweating assets and so forth – 95% of the commentariat’s attention is focused on the US in general and Fed Chair Janet Yellen in particular. Already (one noted at the weekend) American business sites were offering Janet a blank excuse to put off raising rates – they would do, wouldn’t they? – in the light of the Yuan’s still somewhat small devaluations last week. Any excuse in a cock-up I suppose, but I’m fogged by this one: It’s sort of “they’ve made their currency more competitive, so we shouldn’t increase the cost of our debt management” but there’s a bit of apple v pear comparison going on here, and to confuse you further, the chicken and egg thing is all a bit cart before horse. Some situations require the metaphors to be blitzed in a blender; basically what I’m talking about here is the increasingly blurred line between currencies and assets – as motives for doing stuff around the world become more suspect….or inscrutable.
China, it’s emerged in the last few days, is suffering an alarming level of capital flight. The Wall St Journal writes as follows:
‘According to J.P. Morgan & Chase, total capital outflows from China reached $520 billion during the five quarters ending June this year, wiping out all previous inflows back to 2011. “There are two ways Beijing could accommodate these outflows: supplying the market with all the dollars it demands, or let the exchange rate equilibrate supply and demand for dollars,” said Stephen Jen, managing partner at SLJ Macro Partners LLP.’
Worse still, that flight is accelerating: over half the flight took place in July alone, so many eyes round or otherwise are going to be looking very hard at the August numbers.
What that money’s doing is departing in search of higher returns elsewhere. And while I have no doubt at all that Mr Jen knows more about this than I do, I would’ve thought there is another option: for Beijing to raise rates. China is no longer the investment-rich creditor nation it was, thanks to those nice folks in the Shadow Banking System….and latterly, the economic reality having become more obvious.
There are those who say that the PBOC let the Yuan float briefly as a means of making any investor’s ROI in Chinese assets more attractive…thus stemming the outflow of fang woi cash. Well…I’m not sure. China going forward (and it isn’t going forward, but that’s not important right now) is caught between two stools, one of which is a rock and the other a hard place. Whatever it does from now on is going to be a trade-off-cum-compromise.
The simple things in life no longer apply, especially as time goes by: devalue the Yuan too much, and raw material imports cost more. However, as commodity prices are plunging, maybe that doesn’t matter. Devalue the Yuan more sharply, and exports rise, earning more foreign currency. However, western demand has fallen off a cliff, so the chances are it wouldn’t make a jot of difference….beyond an even angrier Japan. Japan just fessed up to the reality of its 5th recession in 6 years (QE huh, doncha love it?) the latest data this morning showing that gdp went from 1% up in Q1 to 0.4% down in Q2.
But suppose China chose to accept that it isn’t really on the same side as the West, and hiked up rates. What, for example, if it decided to raise investment capital through debt issues with higher yields?
Veteran Sloggers will probably by now have spotted this as a welcome return to my obsession with interest rates as one dimension highly likely to wrong-foot some people, and speed us further along the road to catastrophe. But think about it: the only assumption you need is that somebody at Politburo level is good at chess. Fine, I understand that in recent weeks its been more headless chicken than chess masterclass in Beijing, but none of us know what’s going on behind those closed doors. A new player – perhaps even wearing a military cap – may well have pushed a chicken or two to one side.
“Look” says General Wang, “you plonkers have tried everything and got nowhere, but this is my insight: we have dwindling resources with which to invest, nobody buying so much as a new sock in the West, and a currency which, if a fall in confidence takes devaluation beyond our control, could make it impossible for us to buy important stuff. We also have a country chock-full of empty apartments, a stock market that would be in the sewers if we gave it half a chance, and a lot of restive citizens out there with high expectations.But what the world is full if at the moment is money looking for a better return.
“So, if we raise debt rates and use it to give us breathing space, others will follow course…and that blows Yankee off course and makes their debt unmanageable. Meanwhile, we use the cash to fill apartments at tiny rents, bung a load of dosh into R&D to make the necessary switch from low-cost supplier to added value economy, build some better missiles to terrify the Nips, and basically just keep on doing what Washington did for over a decade: big up the debt – but in our case, with the certain knowledge that US debt costs will balloon out of control before ours do.
“And when it all comes to a head, we swap debt with Yankee and wind everything back to nought. Everybody’s happy.”
I don’t think this is going to happen any time very soon. But I’m convinced that in China – and elsewhere among the Brics – it must happen at some point….otherwise everyone loses except the US. And I can think of at least a dozen VIPs who want stand for that at any price.