It will be difficult to rebalance the global economy if Chinese exports keep growing at 30% …
Evaluating Chinese trade data in January and February is hard, since the timing of the Chinese new year varies. But the January data didn’t provide much evidence that the pace of China’s export growth is slowing. With export growth in q4 (and so far in q1) running at around 30% y/y, China’s already large trade surplus looks set to get even bigger in 2007.
That shouldn’t be a shock. When China starts to worry about overheating and begins to restrict bank lending, investment growth – which is a big component of domestic demand – slows. The result is a bigger current account surplus, especially since the RMB remains weak in real terms. I expect China’s 2006 current account surplus to come in at around $240b – and the 2007 surplus, on current trends, to rise above $300b.
Add in $70-80b of FDI inflows and perhaps a bit of hot money attracted by China’s roaring stock market and expectations of a faster move in the RMB, and well, it is easy to see how China might need to add $400b to its foreign assets next year. If all those assets showed up on the PBoC’s balance sheet, Chinese reserves would approach $2 trillion by the end of 2008, not in 2010 …
No wonder there is talk of giving a new state investment company $200b of seed money – and intensive efforts to encourage Chinese state pension and life insurance companies to invest more money abroad.
Now there is a little bit of a puzzle, since the available data from h2 suggests that hot money moved out of China. Reserve growth (adjusted for valuation) lagged FDI inflows and the estimated current account surplus (see Florian Gimbel, who cites work by Standard Chartered).
I don’t buy it. Not really. Stephen Green has done the sums correctly. But a story based on hot money outflows in the second half of 2006 doesn't hold together very well.
China seems to have had a part time convincing individual investors to participate in the qualified domestic institutional investor program. And the same factors that made it unattractive for Chinese investors to hold foreing bonds (the booming stock market and RMB appreciation) also made it attractive to move offshore funds back into China.
I would guess that there were hot money inflows, especially in the fourth quarter, but that these inflows were offset by outflows from the state banks, state insurance funds and the like. The PBoC probably took the sting out of this, at least for the banks, by doing currency swaps. Swaps allow the state banks to invest abroad without taking the exchange rate risk. We won’t know for a while, but this is a story that fits reasonably well with the h1 data ($45b in purchases of foreign debt by “private” investors — likely the state banks and state insuranance funds – in China) and the anecdotal data from h2 (lots of interest in moving funds into China).
And I don't particularly see what is likely to change this in 2007.
China’s surplus looks poised to rise. The oil importing countries are upping the spending, big time – and China is doing very well in most of these markets. In real terms, the RMB remains very weak, as the dollar’s fall v. the euro in 2006 offset the late 2006 increase in the pace of RMB appreciation. Chinese exporters are doing very well.
That should encourage China's government to allow a bit more RMB appreciation, which will only pull more funds into China.
And if commodity prices are stable, well, one of the big sources of the recent growth in China’s import bill may dissipate. That, though, certainly wasn’t apparent in the January data: China seems to have stocked up on oil, big time, in January – with near record oil import volumes offsetting lower prices. Over time, though, stable oil and commodity prices could slow the pace of China’s import growth.
The same broad story holds for Japan. With oil rising in dollar term and the yen weakening, oil has soared in yen terms. I suspect the rising oil import bill explain why Japanese imports growth has been relatively strong over the past few years (data, in yen, here) – offsetting soaring exports. The November data may provide a hint of what is to come. Import growth slowed dramatically … exports, not so much. Toyota is doing very well in North America – and at the current exchange rate, it doesn’t have much incentive to really push hard to increase its production in the US.
If oil is stable at around $60 a barrel this year, the surplus of the oil exporters should fall. But rather than reducing the US deficit, the combination of stable oil prices, rising oil country imports and weak real exchange rates in China and Japan may just shift the world’s current account surplus away from the Middle east and Russia and back toward East Asia. With Japan, the growing carry trade will bring that surplus over to finance the US deficit – sometimes via Brazil’s central bank (private investors borrow yen to buy real, while Brazil’s central bank buys dollars for real to keep the real from appreciating – leading to an offsetting outflow from Brazil to the US). With China, there isn’t a well-established carry trade. Not really. And I suspect it will be hard to get one started so long as the RMB is rising and expected to rise more. So a state institution – whether the SAFE, a new State investment authority or various state banks and state pension funds – has to add to its foreign assets.
Would not “fake exports” rather than hot money outflow also explain the smaller than expected reserve growth?
“…The case has shed light on the flow of huge sums of money outside regulated financial institutions… loans are made between family, friends and social connections for speculative investments… In March, Yuan Baojing had the unfortunate distinction of being the richest man ever to be executed in China, despite a last-minute attempt by his wife to buy off the firing squad by transferring shares worth 49.5bn yuan into state hands…” http://www.guardian.co.uk/china/story/0,,2011822,00.html
“Nationwide, only 63 percent of [U.S.] immigrant household heads have a checking account, compared to 76 percentof native-born household heads…” by country of origin, 65 percent of immigrants from India vs. 56 percent of those from Korea, 48 percent from China… http://www.nycfuture.org/images_pdfs/pdfs/IE-final.pdf
Brad, you neglected to mention that Chinese imports also increased 27 percent year-on-year. While slightly less that the 30 percent growth in Chinese exports, import growth has sharply accelerated for the past several years. German exporters of capital intensive machine tools to the Chinese market are doing very well. America’s General Electric has orders for 500 high-horsepower Diesel-Electric railway locomotives to China. In fact, the newest railway to Lhasa Tibet exclusively uses GE locomotives built in Pennsylvania for the high altitude route. And Boeing has orders for over fifty 737 aircraft and a dozen of the newest 787 aircraft. If the US government would lift Cold War trade sanctions on the export of high-tech civilian products which the US still retains a comparative advantage, the world economy could be rebalanced with increasing global prosperity (ie. US export sanctions on transport helicopters, advanced machine tools, semiconductor production equipment, supercomputers, microwave RF modules, etc.)
DC — yes, Chinese import growth was very strong in January, but that looks to have been a new years effect. lots of things came in before the new year — i did discuss oil, which played a role. I didn’t mention the overall pace of increase for that reason. I wasn’t sure how to interpret the pickup. exports fit a trend line. but with 30% sustained import growth, export growth of 30% implies an expanding trade surplus. Once the jan-feb numbers are out, i’ll do a y/y assessment v q4.
incidentally, the uS dec trade shows a slowdown in the pace of us export growth to China. not a surprise really — China is already buying lots of planes, so a rising base slows the pace of increase.
Indo — fake exports as a way of bringing money into china (over-invoicing) would still to reserve growth — the chinese exporter would still get paid. But rather than a real export, the true source of the reserve growth would be a capital inflow.
but maybe you are thinking of something different.
Global Yen carry trade estimated to be 1 trillion dollars
http://www.wanadoo.jo/economie.php?articleId=2322632
” Some others estimate it to be much higher. Tim Lee of the US research firm Pi Economics reckons that the true size could be in excess of one trillion dollars — equivalent to the annual national output of Canada.
“The yen is a foolproof indicator that we are in the midst of a gigantic bubble. The yen has been falling persistently despite being undervalued and despite Japan having zero inflation,” he wrote in a recent study.
“The yen carry trade is ballooning as never before and is now larger than ever. There is no doubt whatsoever that this credit bubble will end extremely badly,” he warned. “
“…Hedge funds are not legally recognised in China, so about 20 firms have set up research teams there with the legitimate function of feeding investment ideas to their overseas head offices, the newspaper said. But it noted that there are also firms that have allegedly shifted their main operational activities to their Chinese subsidiaries, including unlicensed activities such as placing orders to buy and sell Chinese domestic equities. ‘There are firms that have 15 people in Shanghai and one trader in what is supposed to be the main office in Hong Kong,’ the newspaper quoted an executive at a global funds group as saying. ‘The operational procedures and controls at some of these funds are raising questions,…” http://www.forbes.com/markets/feeds/afx/2007/02/12/afx3420506.html
Brad,
maybe I misunderstood the reason why you were puzzled.
My understanding was: If you add up FDI inflows and trade surplus, the sum should be reserve growth. If it is not, the difference is either hot money inflow or outflow.
You stated that according to numbers that are credible in your assessment, there should have been hot money outflow from China in h2. Clearly there are indications otherwise, which creates the puzzle.
My thought was, what if there was hot money inflow, but the gap can be explained by the trade surplus number being wrong.
I started reading this blog because I cannot make sense of the numbers one reads everywhere, and the supposed effects thereof. Recently I was shocked to note that there is apparently not even a consensus among experts whether China and Japan run a trade surplus or deficit, and that US and Japan official numbers contradict each other. I would also have thought that experts are clear whether hot money was flowing in or out of China in 2006. Not that these things are irrelevant…
My gut feeling tells me that there is something seriously wrong with Chinese numbers. I find it very hard to believe that Chinese exports are exploding so dramatically. The Western textile, toy and shoe markets are already saturated with Chinese products so that drastic growth rates seem improbable. Exports in higher levels of the value chain are subject of much talk, but I do not see floods of Chinese mobile phones or cars anywhere in my neighbourhood. And although some fools are still streaming into China, the real big industrial players have stopped major investments about three years ago, so that foreign-invested export growth should also start to slow.