The search for China’s missing foreign assets …
Yesterday I noted the remarkable slowdown in China’s reserve growth over the last few months. Chinese reserve growth over the last three months – after adjusting for estimated valuation gains — is now well below China’s trade surplus, let alone a broader measure of underlying inflows that captures interest income on China’s reserves and FDI inflows.
That big fall off is hard to understand. The pace of RMB appreciation has picked up. Chinese deposit rates have increased (though they still are lower than CPI inflation). US rates are falling. The underlying economics suggest that money should be moving into China, not moving out.
And the “noise” in Chinese policy circles suggests ongoing concern about capital inflows. Policy actions too: China recently increased the reserve ratio by a full percentage point, sterilizing the equivalent of $75b of reserve growth.
Something doesn’t quite add up.
So what is going on?
My best guess is that China’s government is once again shifting foreign exchange to the state banks to manage – and probably also placing pressure on the banks and state firms to hold on to more dollars in order to reduce the pressure on the central bank.
Assertion not backed up by data, though, isn’t all that persuasive.
So – with a bit of help from Logan Wright (Stone and McCarthy/ Survived Sars) and Arpana Pandey of the Council on Foreign Relations – I did a bit of digging. Logan helped me find the foreign currency balance sheet of the Chinese banks; Arpana helped track down historical data.
And I think I found some support for my hypothesis. Chinese reserve growth — once the CIC and fx held by the banks is factored in — still looks set to be close to $500b this year. Stephen Green's forecast still looks to be basically right. Hot money inflows haven't disappeared. That may constrain the PBoC's willingness to raise interest rates. Graphs follow ..
A couple of key lines in the banks’ foreign currency balance sheet jumped out at me.
The first is the line called “other foreign liabilities.” This line rose sharply a couple of months after the PBoC shifted funds to Huijin to inject into two commercial banks in 2003. I assume “other foreign currency liabilities” matches – at least in part –the “other assets” line in the PBoC’s balance sheet (“other assets include the PBoC’s stake in Huijin).
The other line that jumped at me is the line on “purchases and sales of foreign exchange” on the liability side of the banks’ balance sheet. Purchases and sales of foreign exchange rose in late 2006, when the PBoC was widely reported to have been conducting extensive fx-denominated swaps with the state commercial banks.
Consider the following graph, which shows the 12m change in both items along side the 12m change in China’s reserves (adjusted for valuation changes) –
A sharp fall in the increase in swap lines in the first part of 2007 in turn coincides with the sharp increase in the pace of Chinese reserve growth. The data basically fits.
The outstanding stock of “purchases and sales of fx” and “other fx liabilities” also matches, generally speaking, the banks holdings of fx denominated foreign securities (so called portfolio investment). These securities could be domestic securities denominated in foreign exchange, but they are likely foreign securities. Here though I should note that the gap between the two widened in q3 2007.
As a result, I am reasonable confident these line items provide some indication of the fx that has been shifted to the banks. It is an imperfect measure to be sure, but it is the best I have.
It is interesting to see how adding these lines to the rolling 12m reserve growth changes the picture.
The red line is reserve growth (after adjusting for valuation)
The orange line is reserve growth + the other bank assets. Adding in other bank assets gets rid of the dip in reserve growth associated with the late 2003 bank recapitalization (I did fudge the data bit here – as it took a month for fall in reserves in December to appear in the bank fx data and I didn’t want to have a gap in the graph)
The dark red line adds in changes in swaps. These start to impact that data in late 2005, but really become significant in late 2006. Add in this data, and the mysterious hot money outflows of late 2006 disappear.
This adjusted data suggest does suggest that the pace of increase in reserve growth (the second derivative) has slowed. But it also suggests that the pace of reserve growth is still trending up. And hot money inflows remain significant. Indeed, they look to have picked up significantly since late 2006.
That certainly fits with the statements coming from policy makers.
What of the high-frequency data?
It shows far smaller hot money outflows in late 2006. But it still suggests outflows, not inflows. I am not sure I believe that – a broader range of financial institutions and state enterprises could have been encouraged to hold dollars.
It show a very sharp increase in the pace of hot money inflows in early 2007 – along with a sharp increase in the overall pace of fx asset accumulation. The particularly strong inflows in q1 (the gap between reserve growth and surplus from trade, interest income and FDI) likely reflects a policy decision to allow the state banks to repatriate the money they raised from their offshore IPOs.
And it shows a roughly $30b fall in the pace of fx asset accumulation in the last few months. That is far smaller than the fall in the pace of reserve growth. But it nonetheless is consistent with a reduction in the pace of “hot money inflows.”
I am not sure I believe that either. The FT's Richard McGregor thinks that about $180b flowed into China in the third quarter ($160b if this number needs to be adjusted for valuation effects) — a number that would be consistent $40-60b of additional inflows.
$180b incidentally is an enormous sum. The latest Fed flow of funds data suggests that the US Q3 current account deficit might be close to $175, as the income balance looks to have improved. McGregor's number suggests that as much money may be flowing into China as flowed out of the US from its current account deficit. Even $120b in three months is a lot by any objective measure.
And if I had to bet, I would bet that China's true foreign asset accumulation is closer to Richard McGregor's number than the $120b I was able to find. I doubt my adjustments capture all “state directed foreign exchange” outflows.
With domestic dollar deposits falling, the banks are “short” dollars – particularly given that borrowing in dollars is an attractive way for Chinese firms to take a punt on the rmb dollar (Dollar lending by the banks is up $45b in 2007) . The PBoC supposedly has made it very difficult for the banks to borrow from abroad, forcing the banks to hold fx against their domestic fx denominated loans rather than sell the fx to the central banks (this though doesn’t show up cleanly in the banking data). Any dollar the bank has to hold for itself is a dollar that the PBoC doesn’t have to buy.
Of course, if the bank is using some of its RMB (ultimately from RMB deposits) to buy FX in the market that it doesn’t then turnaround and sell for RMB, it is building up a mismatch on its books. I heard rumblings in Beijing that this is indeed what is happening …
And then there is are other sources of outflows.
Retail mutual funds that offer the chance to buy into the H share market are the most obvious one. China has approved quotas that will allow significant outflows (see Jon Anderson on the FT.com), but most of the quotas have yet to be filled.
Pressure on state-owned enterprises to hold more foreign exchange is another potential source of outflows — and my adjustments wouldn’t capture the buildup of foreign assets outside the banking system.
Very good stuff, Brad. There is plenty of noise out here in Beijing that suggests that the PBoC and other financial authorities are indeed concerned about hot money inflows, but with all the changes taking place it is getting harder to see it in the numbers. Two points. First, the policy mix between measures to cap loan growth versus measures to raise interest rates will presumably give us some idea about hot money concerns, since raising interest rates is likely to encourage speculative inflows. This is not an obvious thing because, as you know, there are many other reasons both for (e.g. real interest rates are too low) and against (e.g. mortgages are all adjustable) raising rates. Still, the recent 1% minimum reserve hike might indicate something about how the PBoC is thinking.
Second, I was trying to figure out the monetary impact of banks holding more dollars, and I wonder if anyone out there can help me see it through. If XYZ bank sells PBoC bills to raise RMB, uses the RMB to buy dollars from the PBoC, and uses the dollars to buy US treasuries, can these US treasuries be held as capital in the same way as PBoC bills - i.e. is XYZ bank forced to reduce outstanding loans, or is there no net impact?
“Japan reacted angrily today at China’s apparent rewording of a bilateral agreement on the yuan, as pressure mounts on Beijing to speed up the currency’s appreciation and shrink its “unfair” global trade surpluses. A Japanese version of the document, released after high-level talks in Beijing earlier this month, records Japan’s desire to see the currency appreciate faster, a demand also made by the EU and US. But the Chinese version, published two days later, makes no mention of Japan’s position. “Issuing something that is different in context from what was agreed, or deleting part of it is near unthinkable in terms of international practices,”…” http://www.guardian.co.uk/business/2007/dec/10/globaleconomy.japan
Too much Excess US Dollar Liquidity in the World
http://www.atimes.com/atimes/Global_Economy/IL12Dj02.html
The US Federal Reserve’s failure to introduce a much tighter monetary policy since the turn of the century has left it with a choice now of cutting rates in the forlorn hope of saving the financial skin of US homebuyers and risk increased inflationary pressures - or raising rates and risk a spiral of collapsing money supply reminiscent of the US in 1931-33. The chance of Fed chairman “Helicopter” Ben Bernanke pursing the better prudent alternative this week? Approximately zero. -
“…An increasing number of triad societies now operate under the umbrella of legitimate companies and enterprises and infiltrate governmental economic entities. Triads, which generate massive profits, have built a system for laundering illegal revenues…” http://eng.globalaffairs.ru/numbers/18/1089.html
Why would this have any impact? The banks capital remains unchanged as a liability on their BS, while the assets it backs can be held in Rmb or dollars or krona or new taiwan dollars, in cash, bills or bonds. You just open yourself up to some FX risk if you dont hold in same currency. Not sure if this answers your Q, or if your Q is deeper/different?
Michael — I agree with your first point. So far, China has relied on a set of administrative measures to implement their anti-inflationary policy, not rate hikes. That (along with the increase the reserve ratio) suggests to me that Chinese policy makers feel constrained in their ability to raise interest rates.
One potential constraint is a fear of attracting bigger inflows and the other, as you note and have explored on your blog, is the impact on mortgages.
As for the second point, I agree with anonymous — I think it just means taking an fx position financed with rmb. No bank really wants to do that, so it would only happen with a bit of squeezing. The other way it might happen is that the banks have been effectively forced to keep (unhedged) the $ provided as part of the Huijin recap (unlike earlier this year, when two of the three banks were supposedly letting swaps expire and basically trading the $ they were originally given back to the pboc for rmb rather than take out a new hedge. In which case, the fx mismatch would be equity capital — part of the motivation here might be to encourage the banks to go forth.
And another part of the story likely is a squeeze on the banks ability to borrow $ offshore to fund their domestic $ lending. with $ deposits falling, the banks are temporarily forced to hold more $ to stay matched (effectively replacing $ liabilities with rmb liabilities that sold for $). Over time tho they are likely to want to try to reduce their $ lending …
I am still a bit unclear on all of this.
The recent increase in swaps — which basically are a sterilization tool for the PBoC that gives the banks fx to manage while capping their fx risk — is a lot easier to see/ understand.
one last point — my understanding is that the banks generally don’t buy treasuries but rather buy floating rate $ denominated debt, often corp. issues. Treasuries don’t yield enough — and the banks want to make a bit of money. If others could confirm this that would be great!
Recap:
A U.S. Credit Bubble of fictitious capital has been circulated through the international system. Fictitious capital is the gap between price and value.
U.S. Dollar imperialism may be coming to an end soon.
The central banks of Asia are stuck with trillions of Green inflating dollars. The pyramid of credit has been inflating for years.
The Fed is now trying to reflate the U.S. credit system to prevent a deflationary meltdown.
The fictitious Capital of finance securitization ‘investnments’ may be $100 trillion(?) globally. These paper claims or liens of wealth have fictitious values and will be liquidated for their ‘market’ prices or a sell-off crisis. Deregulation and non-regulation of debt securitization has allowed for a looting of holders of U.S. debt. This with the declining value of dollars held will be a huge loss for foreign holders.
Owners of securitized investments will meet government intervention with a flood of lawsuits.
Asian nations are stuck and will go down as the dollar and the fictitious Capital goes down.
Will there be a shift to the Asian nations as the center of the capitalist system after this deflation plays out? There is an unraveling of the international credit system. Is the U.S. plan to manage the empire through bankruptcy going to work?
The bailouts won’t work because this bubble has to burst as all bubbles have burst and reinflation just buys time. Credit right now to insolvent businesses and consumers is political damage control.
With the size of the finance bubble to blow up, this has to go beyond ‘recession’.
Also the amount of lawsuits coming against the government and investment banks will be staggering.
Any attorneys here with input. The ads for ‘investment loss’ lawsuits are beginning to surface.
Considering the securitization investments are bad deals, will litigation concerning losses be successful and what will that do for the markets and the credit availability?
Just trying to figure this out?
Since the biggest state-owned firms are all listed somewhere, I guess you can see their BS in a few months to comfirm if they hold FX as their capital.
Quote of the Day:
“Revaluation of the yuan, some experts argued, would not necessarily reduce China’s trade surplus and its foreign currency reserves.” The processing industries, many of which import parts and export finished products, are the main drivers behind China’s trade surplus so the appreciation would not necessarily curb it because a revaluation could also make the imported parts cheaper, and encourage the processing industries to import more,” China Galaxy Securities chief economist Zuo Xiaolei said.”
China to be World Leader in Renewable Energy in 10 years
http://www.smartplanet.com/news/business/10000338/winds-of-change-as-china-invests-in-renewables.htm
The world’s second largest generator of carbon emissions is also on target to meet its goal of obtaining 15 per cent of its energy from renewable sources by 2020. Writes report author Eric Martinot, “China is poised to become a leader in renewables manufacturing, which will have global implications for the future of the technology.”
US-based think tank the Worldwatch Institute estimates that China has already invested over $10 billion in renewable energy capacity in 2007, which is second only to Germany. China’s solar cell and wind turbine capacity doubled in 2006, and Worldwatch predicts that China will pass current solar and wind manufacturing leaders in Europe, Japan and North America within the next three years. China already leads the world in solar hot water and hydropower development.
Wind power is the fastest growing power-generation technology and China has four major home-grown and six foreign subsidiary wind turbine manufacturers. There is also burgeoning investment interest in the home-grown solar photovoltaics (PV) industry, which has seen capacity quadruple to 1,500 megawatts over the last three years.
There is now a significant political will to move towards renewable energy despite China’s chequered history with coal and industrial pollution. The Chinese government announced in November another $3 billion investment in energy efficiency and emission control measures, which will its hope will save 240 million tons of coal in five years.
More imports = smaller trade surplus, n’est pas? right now china is fairly clearly substituting domestic components for imported components and taking market share from others in asia who have let their currency appreciate. the surge in china’s exports/ surplus with europe also seems like fairly strong evidence that exchange rate moves do have an impact on trade.
There are still some holdouts, but the argument that the RMB has no impact on trade has gotten a lot weaker over the past three years b/c of the increase in Chinese components productio/ the rise in China’s surplus with Europe. The rmb has appreciated v the $ but depreciated v the euro. And guess what, the pace of chinese export growth to the US has slowed but not the pace of Chinese export growth to Europe ..
Any thoughts on whether my adjustments to the Chinese reserves data make sense? This kind of work takes a lot of intellectual effort/ elbow grease, so I was hoping for some reactions to the actual revised data ….
Brad,
Take for example the Apple iPod & iPhone. The hardware is assembled in China, but the high-tech memory chips and processor components come from Japan.
Many of the most important components in hi-tech goods (even those
assembled in American factories) are made in Japan. The US will import them even if they rise in price, because there are no alternative suppliers.
It would take the US years to rebuild domestic factories and civilian industrial base. If our present Neo-liberal leaders were still in place, they would probably build those factories in Mexico rather than the US. Recall that the Clinton-Rubin Administration supported NAFTA to profit Wall Street Investment banks that resulted in unemployment for blue-collar US workers.
But after such a big fall, the governing elite in the English-speaking countries would be overthrown - there would be a populist revolt. Seeing this coming, the Washington Consensus elites might try to shift the blame and immerse the US in another foreign war with China in the Taiwan Straits. The Chinese need to be prepared.
Brad,
My guess is that the hot money is going after the Chinese assets(stock and real estate). When the asset price is too expensive, inflation rate is rising and deposit rate is artificial low, why do you think that it is unlikely that some hot money has been squeezed out?
” With domestic dollar deposits falling, the banks are “short” dollars - particularly given that borrowing in dollars is an attractive way for Chinese firms to take a punt on the rmb dollar (Dollar lending by the banks is up $45b in 2007) . The PBoC supposedly has made it very difficult for the banks to borrow from abroad, forcing the banks to hold fx against their domestic fx denominated loans rather than sell the fx to the central banks (this though doesn’t show up cleanly in the banking data). Any dollar the bank has to hold for itself is a dollar that the PBoC doesn’t have to buy. 0f course, if the bank is using some of its RMB (ultimately from RMB deposits) to buy FX in the market that it doesn’t then turnaround and sell for RMB, it is building up a mismatch on its books. I heard rumblings in Beijing that this is indeed what is happening … ”
If you are looking for feedback, I’m finding it very difficult to understand this passage, or quite frankly make sense of it. In particular, I’m not sure what “forcing the banks to hold fx against their domestic fx denominated loans” is about. Could you possibly restate?
“…foreign (including Chinese) mafias have got possession of… raw-material resources, metals (including rare-earth varieties and gold), timber and coal…” http://eng.globalaffairs.ru/numbers/18/1089.html
“…All industry in China works on this basis of subsidised inputs at lower-than-market prices, in order to generate foreign exchange. The vast headline profits and foreign currency reserves are all more than balanced out by the huge and unsustainable deficits concealed in the opaque and self-deceiving accounts of the state corporations, and in the catastrophic environmental deficits that are not accounted for anywhere. The only question is, how long till the truth comes out.” http://blogs.iht.com/tribtalk/business/globalization/?p=585
Paulson’s Interest rate ‘freeze’ - the real story is Criminal fraud
http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2007/12/09/IN5BTNJ2V.DTL&feed=rss.business
Blockbuster “Freeze” Story Reveals More Banking Crimes
Attorney Sean Olender’s recent San Francisco Chronicle fraud expose, mentioned above, defines the real reason why Countrywide, JP Morgan, Bank of America and others met secretly with Treasury Secretary Hank Paulson to implement his “freeze” brainchild. It was to avoid having to buy back loans at face value if there was fraud in the origination process.” The article implicates both Paulson and Goldman Sachs.
The key of the “freeze,” says the California attorney, “is to refinance those borrowers whose current loans involve fraud in the origination process. And I assure you it was a minority of borrowers whose loans didn’t involve fraud.”
By refinancing these borrowers’ loans, mortgage originators and bundlers hope to trick investors into agreeing to loan modifications which would disclose the ‘real’ wage and asset information of the borrowers. “Once the foreclosure occurred, they could say, ‘Fraud? What fraud? You knew the borrower’s real income and asset information later when he refinanced.’
“Investors in mortgage bonds have contractual ability to require banks to buy back the loans at face value if there was fraud in the origination process…”
“Ultimately,” writes Olender, “the people in these secret Paulson meeting were probably less worried about saving the mortgage market than with saving themselves. Some might be looking at prison time.”
Olender notes that “No one is talking about the fact that these people created the problem and profited to the tune of hundreds of billions of dollars from it.”
According to Olender, “As chief of Goldman Sachs, Paulson was involved, to degrees as yet unrevealed, in the mortgage securitization process during the halcyon days of mortgage fraud from 2004 to 2006… Paulson became the U.S. Treasury secretary on July 10, 2006, after the extent of the debacle was coming into focus for those in the know,” he said.
Goldman Sachs achieved accolades in the markets for having bet heavily against the housing market, Olender wrote. The success of its strategy…also”means that Goldman Sachs saw this coming at the same time they were bundling and selling these loans…”
The San Mateo attorney concludes: “We are on the cusp of a mammoth financial crisis, and the Federal Reserve and the U.S. Treasury are trying to limit the liability of their banking friends in the guise of trying to help borrowers. At stake is nothing short of the continued existence of the U.S. banking system.”
how are 2007-12-11 06:47:54, 2007-12-11 10:07:22, 2007-12-11 11:51:33 and 2007-12-11 12:30:22 in any way relevent to ‘The search for China’s missing foreign assets’
It is puzzling to me that the asset-liability size of the ‘foreign currency balance sheet’ of the banks is exactly matched at all times. This is not a natural state of banking. There should be a net FX position embedded with different asset and liability sizes. Without understanding why this is the case, it makes the interpretation of the numbers additionally problematic - unless somebody has a simple answer as to why there is always 0 net foreign exchange risk on these balance sheets.
(same anon as 12:15)
guest — you are right. most of these comments are not relevant. I have opted to ignore them rather than take them down.
DC — I’ll address the ipod story at another point in time. Actual data as opposed to anecdote suggest more and more high-end components are being produced in China.
Jin –deposit rates are low relative to inflation. but chinese savers still do better getting 3-4% in rmb terms rather than 4% in $ terms (minus a 6% depeciation),or -2% in rmb terms. Both kinds of deposits are not keeping pace with inflation. and for foreigners, 3-4% plus an expected 8% appreciation = 11-12% in $ terms. and foreigners care about $ returns — not inflation. that is why they are happy holding gulf currencies!
Anonymous — thanks for the on topic questions! The matched balance sheet is indeed suspicious, and given that there are lots of mysterious balancing items, i wouldn’t put too much stock in it. The banks clearly had an unbalanced fx position as a result of the recap in 04, but it doesn’t clearly show up and it wasn’t a concern so long as the rmb was pegged. Before the peg changed, they got swaps as protection.
as for my obscure language — this is what i am getting at.
$ lending is up. Understandably so. RMB lending rates have increased, and the $ is expected to depreciating. Borrowing depreciating $ to earn appreciating RMB is a good business.
But to lend dollars out, the banks need a source of dollars — whether domestic dollar deposits, dollars borrowed from the central bank via swaps, of offshore dollar loans.
We know that onshore $ deposits are falling. And there are rumors that the PBoC has made it hard for the banks to borrow dollars from abroad. The net result is that the banks now have more $ loans than $ deposits/ $ offshore credit lines.
So what to do — well, the easiest is to get $ from a swap with the central bank. but there are only so many such swaps that the PBoC is willing to do.
what is left — well, you can offset a fall in your dollar liabilities (w/o a fall in $ loans) by trading some RMB for $. the short-term result is that the banks end up holding on to some of the fx they buy in the fx market rather than selling it all to the central bank. over time, though, the banks likely will try to reduce their dollar loans.
At least that is my theory.
OT, but any thots on bersten’s SDR substitution plan to facilitate currency adjustments?
http://www.ft.com/cms/s/0/75cb5f2e-a729-11dc-a25a-0000779fd2ac.html
DC: Take for example the Apple iPod & iPhone. The hardware is assembled in China, but the high-tech memory chips and processor components come from Japan.
With finance, marketing, and design done in the United States….
DC: It would take the US years to rebuild domestic factories and civilian industrial base.
No point really. Chinese and Mexican factories can do things faster and cheaper.
DC: Recall that the Clinton-Rubin Administration supported NAFTA to profit Wall Street Investment banks that resulted in unemployment for blue-collar US workers.
And as long as Wall Street is generating enough white collar jobs to replace those blue collar jobs and as long as the United States educational system creates people educated enough for those white collar jobs, things should work out fine.
US factory workers just can’t compete with Chinese and Mexicans for assembly type jobs, so the US shouldn’t even try.
Apologies for replying to off-topic comments, but some of them are so uninformed that I can’t let them go…..
The big investment banks don’t originate subprime mortgage loans, and the people who did originate those loans are mortgage brokers that are now out of business.
The *real* reason that the banks are meeting with Paulson is the obvious one. To make sure that you don’t have another round of defaults when the teaser rates on the current mortgages expire in about six to eight months. If the loans can be refinanced then the asset backed securities that are based on those loans are still paying and the banks can avoid massive writedowns.
Guest: the people in these secret Paulson meeting were probably less worried about saving the mortgage market than with saving themselves.
Well….. Duh….. One thing nice about Wall Street is that no one claims to be altruistic. Everyone is looking after themselves and their own selfish interests, and cooperating with the common good only to the extent necessary to advance their own personal greed. Funny thing is that you find that in order to advance your personal greed, it actually helps to do the “right” thing.
So what ends up happening is that people shake hands and make deals. Curiously I don’t find any less cooperation and niceness in this environment, but I do find a lot less hypocrisy, and things move a lot faster when people let you know what they are after rather than your having to guess.
Guest: We are on the cusp of a mammoth financial crisis, and the Federal Reserve and the U.S. Treasury are trying to limit the liability of their banking friends in the guise of trying to help borrowers. At stake is nothing short of the continued existence of the U.S. banking system.
And of course the people who are trying to limit the scope of the financial crisis (while at the same time saving their own skins) are the bad guys.
Written by bsetser on 2007-12-11 12:54:56
” what is left — well, you can offset a fall in your dollar liabilities (w/o a fall in $ loans) by trading some RMB for $. the short-term result is that the banks end up holding on to some of the fx they buy in the fx market rather than selling it all to the central bank. over time, though, the banks likely will try to reduce their dollar loans. ”
Thanks for explaining. A couple of comments on this:
My take is that what you are describing would amount to funding US dollar loans with RMB deposits. If you follow the required transaction on a new dollar loan, this simply amounts to converting an RMB liquid asset to US dollars and advancing those funds to the borrower. The bank wouldn’t really hang on to the dollars from the FX transaction - thats whats used to provide funds to the borrower. But there would be a balance sheet currency mismatch as a result. This was the motivation for my point on the lack of a balance sheet mismatch at the macro level.
Second, if this is really happening at the banks under their own volition, surely PBOC must be happy about it. It’s a natural source of demand for dollars outside of PBOC.
Third, I’m curious about the balance sheet category “purchases and sales of foreign exchange”. This is a bank liability category. And its a very large category. I assume it has something to do with the PBOC swaps you’ve mentioned. But I’m wondering if it also includes RMB deposits sourced from retail or other customers that are swapped into dollars on a fully hedged basis, if such a thing exists in China? Having said that, the whole thing seems very counterintuitive to me, because there seems to be a natural demand for foreign currency loans and this plug item for foreign currency liabilities. This should be helping out the PBOC in terms of a natural demand for dollars, which doesn’t seem like the right conclusion given everything else that we know.
Actual data as opposed to anecdote suggest more and more high-end components are being produced in China. - Brad
Duke University Assessment of China’s Industrial Clusters
http://www.cggc.duke.edu/pdfs/workshop/20061110.pdf
The Vast majority of Chinese exports produced are low-tech electrical products, textiles, watches, pottery, socks, toys, housewares, furniture, etc. Any major currency revaluation would severely impact employment for hundreds of millions of workers. Walmart and other US multinationals will outsource production to anywhere in the world that sells at even a small discount to Chinese production. Demanding that the Chinese revalue their currency to lower their global competitiveness is the moral equilvalent to holding a gun to another person’s head and pulling the trigger.
Today’s New York Times has an highly disturbing article about a “private” Chinese Steel pipe corporation threatened by tariffs from the United States resulting in reduced production and hundreds of workers unemployed. Although the WTO has already ruled against the US three times already, the US is still imposing 100% protectionist tariffs on the “private sector” Chinese corporation.
http://www.nytimes.com/2007/12/11/business/worldbusiness/11steel.html?ref=business
“Apologies for replying to off-topic comments, but some of them are so uninformed that I can’t let them go…”
agree D.C.’s repetitive comments beg repetitive corrections - and when ignored, the same stuff appears under different monikers until he gets a response from someone else - and detracts from the topic - so ignoring isn’t and hasn’t been working for quite some time…
“Apologies for replying to off-topic comments, but some of them are so uninformed that I can’t let them go…”
“…Chinese people living under inhumane and brutal conditions in thousands of labor camps all over China… are forced to produce… toys [etc.]… so that the Chinese kleptocracy can have the foreign exchange those exports earn…” http://www.fff.org/freedom/1297e.asp
Funny thing is that you find that in order to advance your personal greed, it actually helps to do the “right” thing. - Twofish
Citicorp’s Robert Rubin personally phoned the CEO’s of the Bond Rating Agencies to pressure the companies not to downgrade Enron Corporation Bonds even when it was clear the company was facing serious financial problems. As a result of the disinformation campaign, Enron Corporate Insiders and Citicorp investment funds divested billions of dollars in shares and bonds while the US general public was left holding the bag with billions in losses. As the lead investment bank, Citicorp engaged in a criminal partnership with the Enron corporation to decieve the shareholders and public on the true state of the company’s finances by hiding debt in off-the-books SIV holdings. Let’s be perfectly clear that the $2 billion settlement with the SEC to drop criminal charges against Citicorp represents the money of shareholders.
The sordid Enron-Citicorp saga isn’t over yet. The trustees of the remaining Enron assets have just filed a $20 billion lawsuit against Citicorp and Robert Rubin. And Citicorp is facing a criminal lawsuit in Italian courts over the Parmalat Corporation scandal that defrauded European investors. Personal Greed doesn’t help advanced the “right” thing.
“China said state-owned firms will have to pay dividends of 5% or 10% of earnings, depending on the industry.” http://online.wsj.com/article/SB119739876441221373.html
“…Murphy, who heads Remote Diagnostic Technologies Ltd… is seeking to increase his company’s revenue outside the U.S. He is also shifting more of his costs into dollars by raising his purchases from American suppliers and relocating sales jobs to the U.S. Other businesses are considering the U.S. over Asia or their home markets to manufacture…” http://online.wsj.com/article/SB119733616965220247.html
DC — you have made your point on rubin and enron many, many times before. is it really necessary here. For the recent data on the substitution of imported components with domestic components, look at the work the imf has done over the past year using the 05-07 data, not work done using data through 2004. china’s trade surplus really surged in 05.
2fish — some assembly (often capital intensive) is still done in the US. Boeing for example (tho it sources more and more components globally). I think you are painting with a bit too broad a brush.
anonymous. great questions, and on-topic!
1) the PBoC would be thrilled as you note if the banks really wanted to hold $. but in this case i think the PBoC likely engineered the $ shortage by squeezing offshore funding. the results as you note is a mismatch — and rumor is that the pboc loosed limits on open fx positions. but, as you note, the resulting mismatch isn’t showing up transparently on the banks aggregate balance sheet.
2)re “purchases and sales” — this is the net position of the banks, so it is a net position with another entity. and my assumption is that the only counterparty in china willing to take the otherside of the trade (and in effect be short rmb/ long $) is the PBoC. But that is an assumption.
I think the deposit story would be as follows: the banks take in rmb deposits. they then swap rmb for $ with the PBoC. as part of the swap, they promise to sell the $ back to the pboc at a fixed price, hence it is a $ liability. and they then have $ to either lend out domestically, or to invest abroad — i didn’t show portfolio investment here, but that rose substantially in 06 (consistent with the bop data showing large purchases of debt securities by private Chinese investors).
What makes the situation more complex is the role of Hong Kong. All of the big PRC banks have subsidiaries in Hong Kong. Theoretically HK is offshore, but there enough links between HK and the Mainland that is adds a major complication to the system.
Also, it’s not difficult to find counterparties for a currency future or option transaction even everyone is 100% the currency is going to go in a certain direction next year. What you do is to hold the currency to balance out the contract and make money off the transaction fee.
true, but to offset the risk of rmb appreciation i think that you need to be able to hold rmb. and offshore institutions cannot do so — and onshore institutions cannot sell the rmb forward offshore (for a fee). the capital controls are a constraint.
and if someone hedges their position by holding rmb (i.e. they sell $ for rmb) no funds on net are moved out of china. my strong sense is that the fx swap market still relies heavily on the pboc’s willingness to act as a counterparty.
bsetser: true, but to offset the risk of rmb appreciation i think that you need to be able to hold rmb. and offshore institutions cannot do so — and onshore institutions cannot sell the rmb forward offshore (for a fee). the capital controls are a constraint.
It’s rather easy to get around this constraint. You have a bank with an onshore and offshore component. The onshore holds RMB, the offshore sells non-deliverable options or forwards. Once you consolidate the books of the onshore and offshore parts, you can hedge without actually moving currency.
This also means that being allows to do business in RMB in the PRC is tremendously useful even if you have few/no customers in China. Also Hong Kong ends up being where onshore and offshore meet. From the point of view of a trader in HK, onshore and offshore are just two different entries on the same database.
I do have this suspicion that the “missing money” ended up in Hong Kong somehow. The weird thing about money is how all of it is in cyberspace anyhow.
2fish — I more or less agree, particularly re: HK. But nonetheless the rmb forward market seems to have gotten squeezed (no sellers of protection v risk of a large appreciation, i.e. no one with rmb to hold as a hedge) for a while (the NDF hit 9-10% a couple of weeks ago), so something happened.
Maybe mistaken but there was a speculative piece written on the same topic in the FT or Bloomberg (might be Pesek), a couple of months ago, between March and August and the take was : China re-routed the $ to Europe and supported the dollar via treasuries purchases. But looking at the Euro, it might have been the buying of Euro assets instead.
As for $ getting out via HK, somehow, the preference for furtive routes seems to plague the Chinese economy,so really doubt if the $ is going out in a very obvious way though HK is definitely a route. You have to wonder how many individual investors have taken the route of cash out in Shenzhen and walking over (ok, train) to HK , they even limited the withdrawal rate in Shenzhen banks! But that’s just a drop in the ocean for you .