Several months ago, when we were trying to summarise our best guess as to the shape of the coming year, we had to attach the caveat to our otherwise gloomy prognosis for the region that the ECB’s giant, 3-year exercises in what Helmut Schlesinger has since scathingly described as ‘War Finance’ might just be the thing to break the logjam of declining real Eurozone money supply and so allow for a gradual improvement in the continent’s economic fortunes to develop over the course of the succeeding six to nine months.
Given the immediate drop in bond yields – most notably at the front end of the more afflicted curves, which had in some cases been inverted (strictly speaking, humped like a dromedary with silicon implants) – a number of observers were quick to draw the inference that the heavy buying of government bonds this implied was proof indeed that it must have been the case that the breakout had occurred, even though this was once again to confuse a change in bank assets (all of them non-money) with a change in the size of composition of its liabilities (some of which are indeed money).
Alas and Alack! The latest official numbers show that we had best put the Krug back on ice for no such impetus has yet shown up, certainly not as far as the report for February is concerned.
Granted, there has been an impressive increase in the count of government bonds held by banks in Spain (+€67.9 billion) and Italy (+€54.2 billion) in the last three, LTRO-spanning months – sums not coincidentally similar to the two nations’ respective increases in Target2 indebtedness of €77.4 billion and €52.6 billion in that same trimester – but, sadly, this expansion has come partly at the expense of a combined €50.0 billion decline in credit extended to households (-€13.8bln) and non-financial businesses (-€36.2bln) – i.e., to the productive world instead of the destructive one.
It is also interesting to note that balances on this modern-day instance of Keynes’ rejected International Clearing Union system (a construction aimed, said his detractors, solely at inveigling the US into financing Britain’s chronic trade deficits) has continued to register increases in size and speed even though – as we might fully expect amid a credit crunch – the net imports of the PIGS have declined sharply from €150 billion a year on the eve of the LEH-AIG panic to an 8-year low of around €45 billion today. This leads inexorably to the conclusion that the Dutch and Germans (principally) have not just spent the last twelve months engaging in a sizeable exercise in vendor finance, courtesy of the European NCBs, but also financing debt service, debt redemption, and capital flight to the tune of €100bln for the Fateful Four, with another €200bln on top for Italy.
More to the point, the ECB’s great game of credit-wrapping via the world’s most ineffective clearing account (across which larger and larger sums refuse to actually clear) has meant that there has been a bare 2.1% nominal increase (making for a modest, but significant real decline) in money-proper these past twelve months and next to none in the last three.
Paltry growth rates like this were last seen in the fateful year of 2008 and, not surprisingly, even German business revenue growth has all but halted over the past three-quarters as a result, having earlier been surging ahead at annual rates in the high teens. Stagnant revenues mean no scope to spread fixed costs over a greater inflow of cash: stagnant revenues also mean less ability to accommodate the imposition of higher input prices, such as those for energy. Hence, it means a struggle to preserve margins and an even greater battle to grow profits.
Stagnant revenues means stagnant income of all sorts, all throughout the economy and therefore stagnant (possibly declining) tax receipts, increasing pressure on government budgets into the bargain.
Thus, Europe’s underlying travails continue unabated, no matter what temporary reduction in sovereign stress the actions of the central bank, in concert with the conclusion of the Greek debt swap, may have effected.
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So, if we cannot look to Europe for help, surely it is about now that the eternal optimists would have us believe that China will awaken from its slumbers amid a blaze of new, debt-fuelled spending initiatives and so buy up all the goods we find so hard to sell at home (without offering a substantial concession on the price).
Perhaps, though, it might give us pause to recognise that those who actually invest in the place seem to be too busy selling their equities to pay much attention to the Panglossians and Polyannas. With a 10% slump in the past 12 sessions in the main indices (retracing a major fib interval of the 2012 rally), there seems little enthusiasm there for clinging on in the hope that the PBOC will bail anyone out.
Anecdotal evidence continues to belie the highly suspect official statistics upon which so many blind macromancers routinely base their case. Growth in Shanghai port traffic has slowed to a virtual crawl – under 4% YOY – as have rail freight ton-miles – a sub-5% increase in the first two months which is less than half the trend rate from before the crisis – while electricity use for the first two months (unseasonably cold ones full of residential heating demand, at that) was only 6.7% above the like period in 2011, the smallest increment (excluding the Crash itself) in a decade.
Then we had the salutary revelation that the CCP has not, after all, managed to suspend the working of the same economic laws which are crushing Europe – i.e., they have not been able to order away the effects of a monetary dearth which is steadily eating away at the shaky foundations erected during an earlier glut and sizzling through the overextended balance sheets this spawned with the vigour of fluoroantimonic acid.
Thus, when the NBS announced that the trajectory of larger firm revenues had decelerated sharply from the 30% YOY rise of HI-2011 to February’s 13.4% (the slowest, ex-crisis, in a decade), we might have guessed that profits would fall 5.2% YOY (fall!)– a far cry from the earlier period’s growth in the high-20s. More worryingly, accounts receivable and finished product inventories were also both up 18% – swelling faster than sales and so implying negative cash flow prevails across the board. Negative cash flow means that even such profits as there may be are more a virtual artefact of accounting convention than the sort of filthy lucre you can actually spend.
Even this does not tell the whole story, for while expanding production volumes and an administered price hike helped both oil & gas and the utility industries improve their tallies (if not, for the first of these, anything like as rapidly as before) and if agriculture also benefited from higher prices, by contrast, chemicals, metals processing, machinery and equipment making, and electronics and communications all saw income shrinking – to the point of extinction for the nation’s steel makers who are responsible for half the planet’s output.
Also note that general manager Yiwei Mao of Jiangxi Copper – one of the country’s biggest smelters – told a conference that demand for the metal (record imports notwithstanding) was about where it was in 2009. For those of you with a short memory, that was when the world was just emerging, blinking and choking, from the dust left by the collapse of the entire superstructure of Western finance; when global industrial production was some 20% below where it ended 2011; when China was taking 40% less from its external suppliers; and when the copper price was less than half of what it is today.
So why the urgency to ship so much metal into China? Financial arbitrage mostly.
Take the news from SAFE that China’s short-term foreign debt (three-quarters of which is denominated in US dollars) rose by a third last year, and has doubled in the last two (gaining $125bln in 2011 and $117bln in 2010). Of that latest increment, $77bln was incurred in the form of trade credit between enterprises and trade finance from banks, with $98bln being the corresponding total for 2010.
Now, why would a country which enjoys official trade surpluses of $185 billion (2010) and $158 billion (2011) on top of FDI inflows of $105bln and $116bln, successively, need to borrow the money with which to pay for its imports? To speculate on a yuan revaluation, or to lend on the curb market to cash-strapped SMEs, to play the property bubble, or to plug up that negative cash flow and fund those crippling accounts receivable and stockpiles of unsold goods, what else?
By way of comparison, the unexplained total of Chinese forex reserves additions was $60 billion in 2011, despite a reval loss on its euro holdings which must have been of the order of $30bln. Making up that difference, trade credit was $77bln, as we have seen. Circumstantially, copper imports alone amounted to $35bln.
How much of that latter mountain is tarnishing quietly in the humid South China air, do you suppose, quietly frustrating all calculations about physical supply and demand and fooling all the econometric divinations linking this to China’s overall growth? An amount which may be incalculable, but is undoubtedly substantial and, as far as the market is concerned, likely to prove decisive.
As we continue to debate just how hard is ‘hard’, when it comes to the ongoing economic ‘landing’, let us not forget that the largest and blackest of cygneous waterfowl is the conflict raging at the heart of the regime, glimpses of which are just visible behind the internet firewalls and media censorship practised in this least politically open of countries.
Even if we dismiss the wilder rumours swirling about the offshore websites and the fringes of the blogosphere, it is painfully clear that something very unusual and potentially disruptive is afoot. Given our overdependence on the myth, as much as on the reality, of a China rising inexorably and uninterruptedly to a resource-hungry world primacy over the next decade or two, the interplay of factional political infighting with potential economic meltdown could be the defining influence on the world’s affairs in general, much less on the enthusiasms of those active in its financial market playground, in the coming months.
The inveterate stock promoters of this world will see in this – to the extent that they acknowledge the danger at all – a greater likelihood that the might of the PBOC will again be unleashed to forestall an intensification of the slowdown, no matter what the collateral damage But in this they may be fatally awry in their reading of the political landscape. Having moved against the state-capitalist left of old man Jiang and his Chongqing bruisers, surely the last thing Hu & Co. would want in their final months in office would be to unleash another oligarch-enriching orgy of speculation of the kind such a mass stimulus would be almost bound to foment.
Plain vanilla economics might well be correct in telling the bulls that they may rely on a Zhou Xiaochuan Put to spare them too much future pain, but the law of the political jungle, red in flag, tooth, and claw, may well dictate otherwise. As we write, it seems beyond dispute to say that the Chinese hierarchy is battling it out behind closed doors to determine the long term future of the regime and, by implication, the direction of the entire nation. In such momentous times, we would perhaps be foolish to think that the routine application of short-term countercyclical policy will bear overmuch weight in their counsels.