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Secrets of SAFE: A sharp slowdown in reserve growth and large “hot” outflows in q4….

by Brad Setser
January 13, 2009

China’s formal foreign exchange reserves rose by about $40 billion in the fourth quarter, rising from $1906 billion to $1946 billion. Adjusted for valuation changes, that works to a $55 billion or so increase. But appearances can be deceiving.

In the past, China “hid” the pace of increase in its reserves by forcing the banks to hold dollars as part of their required reserves. Those dollars showed up on the PBoC’s balance sheet as “other foreign assets” but weren’t counted as part of China’s formal reserves. In the fourth quarter, China’s reported reserves overstate its true reserve growth, as the banks reserve requirement was cut. That led to a $26 billion fall in the PBoC’s other foreign assets in October and, I assume, a comparable fall in December. Given the size of the reduction in the reserve requirement in December, that is conservative.*

That means that the PBoC’s “true” reserves didn’t grow at all in the fourth quarter, best I can tell.

Valuation changes had a fairly modest impact on the data for the quarter as a whole, but a huge impact on the data for individual months. They pulled reserves down in October and pushed reserves up in December. Both effects were quite significant – in the $50 billion range. That has one big implication: China was adding to its reserves (if reserves are defined broadly to capture the PBoC’s other foreign assets) in October but not in December. My best guess is that China added about $15-20 billion to its reserves in October, another $10 billion in November and lost $20 billion in December. My numbers are a bit different than those of Morgan Stanley’s Wang Qing. He believs capital outflows peaked in October. I would put the peak in December — which incidentally implies that the small RMB devaluation that China tried in early December had a big impact on capital flows.

I wouldn’t put too much emphasis on the monthly estimates though. Combine China’s huge reserves and large moves in the currency markets and you get large valuation changes. If my estimate of the currency composition of China’s reserves is off, my monthly estimates will be a bit off too. The trend though is clear. Chinese reserve growth looks to have peaked earlier this year.* On a rolling 3m basis (adjusting for valuation changes and likely changes in the PBoC’s other foreign assets), Chinese reserve growth has essentially stopped.

The sharp fall in the pace of reserve growth is at odds with the trend in the trade data. Exports are now falling – but imports are falling faster. Some of the fall in imports is in anticipation of future falls in exports (no need to import components), some reflects a fall in commodity prices but some also reflects a fall in China’s domestic demand. Y/y imports from the US and Europe were down in November – and that isn’t because China imports a lot of components or commodities from Europe.

As a result, China’s trade surplus is rising – China’s fourth quarter surplus set a record ($114 billion), and its surplus for all of 2008 topped its 2007 surplus. Given that oil averaged $100 in 2008 – well over its 2007 average – that indicates that for much of the year export growth was much stronger than import growth.

There is only one way to square a record trade surplus with the sharp fall in reserve growth:

Hot money is now flowing out of China. Here is one way of thinking of it:

The trade surplus should have produced a $115 billion increase in China’s foreign assets. FDI inflows and interest income should combine to produce another $30-40 billion. The fall in the reserve requirement should have added another $50-55 billion (if not more) to China’s reserves. Sum it up and China’s reserves would have increased by about $200 billion in the absence of hot money flows. Instead they went up by about $50 billion. That implies that money is now flowing out of China as fast as it flowed in during the first part of 2008.

And in December, the outflows were absolutely brutal. December reserves were up by $20 billion or so after accounting for valuation changes – but the fall in the reserve requirement alone should have pushed reserves up by at least $25 billion. Throw in a close to $40 billion trade surplus and another $10 billion or so from FDI and interest income, and the small increases in reserves implies $70 billion plus in monthly hot only outflows … That’s huge. Annualized, it is well in excess of 10% of China’s GDP. Probably above 15% …

No wonder the PBoC is worried about unusual swings in capital flows.

China can absorb such a swing in capital flows better than most. And in some sense the outflows now just represent a reversal of earlier inflows, not a broad based movement of funds out of China. But it does still highlight that China’s controls are porous –

In one sense this is good – it makes it harder for China to engineer a controlled depreciation against the dollar. And that may mute internal calls for China to prop up its exports with a depreciation. China presumably doesn’t want to create perception that the renminbi is a one way bet down after it was long considered a one-way bet up. Andrew Batson of the Wall Street Journal:

The threat of outflows, analysts say, appears to have kept China from significantly depreciating its currency, despite pressure from exporters for a cheaper yuan. Chinese exporters are suffering from a decline in demand in the U.S. and Europe, and a less valuable yuan would help make their goods more attractive. A brief downward push in the yuan’s value in early December was met with panic selling in the foreign-exchange market, but since then, the central bank has held the yuan around 6.85 to the U.S. dollar.

“If they engineer a depreciation it may change the expectations not only among foreign investors, but also among China’s own residents,” thereby encouraging ordinary people to send money abroad en masse, said Wang Qing, an economist for Morgan Stanley. Indeed, investors have been steadily reversing bets on gains in the currency: Yuan bank deposits in Hong Kong, for example, have been falling every month since June. Reluctance in Beijing to weaken the yuan from current levels is largely welcome news for China’s neighbors and trading partners. They have worried that a weaker yuan could start a cycle of competitive devaluations that would worsen the current global economic woes.

And so long as China’s exports are holding up better than the world’s imports – and China’s surplus is rising – there isn’t a fundamental case for a depreciation either. There is by contrast a strong case for a bigger domestic stimulus — that would help China and help China’s neighbors by helping to bring China’s surplus down, or at least keep it from rising. See the World Bank’s David Dollar.

What of Chinese purchases of US treasuries – a hot topic last week. Slower Chinese reserve growth implies reduced purchases of Treasuries, right?

Umm, no.

We don’t have the November or December TIC data yet, only the October data. But so far there is no evidence that slower reserve growth has translated into reduced Treasury purchases or reduced dollar purchases. Consider a graph of the average increase in China’s reserves over the last 3ms v China’s average purchases (using the Setser/ Pandey adjusted data series which tries to capture flows through London)

What is going on? Well, China is clearly increasing the Treasury’s share of its portfolio by shedding risk assets. And the strong rise in the China’s dollar holdings?

That may be a bit deceptive. My best guess is that China has pulled funds from private fund managers and private custodians and parked those funds in short-term Treasuries. That would explain why the TIC data is suddenly capturing huge flows from China. It is just a hunch though …

Over time, if hot money outflows subside, China’s reserve growth should converge to its current account surplus (plus net FDI inflows). That implies ongoing Treasury purchases – though not at the current pace – barring a shift back into “risk” assets. And if hot money outflows continue, watch for Hong Kong and Taiwan to buy more Treasuries. The money flowing out of China doesn’t just disappear … it has to go somewhere.

UPDATE: Nick Lardy of the Peterson Institute believes China shifted foreign exchange from the PBoC to ABC in q4 to help with the recapitalization of ABC. If that is true, this would help to explain the modest reserve growth. It thus implies more modest hot money outflows. To have an impact on reserve growth, this would need to be funds that haven’t already been shifted to the CIC. There is no doubt that the CIC injected some money into the CIC. The question is whether or not SAFE did too, and whether or not the CIC was using funds that were transferred to the CIC long ago or more recently. If anyone has useful details, I am all ears.

* Logan Wright of Stone and McCarthy is on the case; he should have a definitive estimate soon.
** This chart shows the change in the foreign assets that appear on the PBoC’s balance sheet. It doesn’t try to adjust for funds shifted to the banks in 2003 (the recapitalization of BoC and CCB) or the funds shifted to the banks in 2005-06 (ICBC recapitalization, the use of swaps to allow the banks to manage a portion of the PBoC’s reserves) or the funds shifted to the CIC in late 07 and q1 08. I’ll have a post going through all this data in great detail soon.

36 Comments

  • Posted by RJ

    Brad,
    Any thoughts on how the outflows in Dec. related to the movement in EUR/USD? And the chatter at the time that it was SAFE who was behind the strength in the EUR?

  • Posted by James Buchal

    You present the numbers with and without “valuation changes”. It would be interesting to see how much of the balloon in reserves over the last decade was from the rise in bond prices, as opposed to simply collecting cash. The reserves do not seem to have appreciated as fast as one would think if a substantial fraction were held in long bonds.

  • Posted by john

    interesting, a good trade could be long Korean, China equities, short Taiwan

  • Posted by bsetser

    James — as far as i know China unlike Japan doesn’t mark its bond portfolio to market. so there is no need to adjust for that. This effect would matter for parts of 08, but generally the increase in china’s reserves comes from flows not valuation gains. and SAFE would also need to take capital losses on its equities as well as gains on its bonds.

    RJ — i heard the rumors that SAFE was buying EUR in Dec. It could have done so out of its existing portfolio. There was also a rumor that SAFE hadn’t been buying EUR earlier in the fall, and that helped the USD move up so much so quickly. Who knows. I don’t have the ability to assess that in anything close to real time. the us data (TIC) provides clues but with a huge lag.

    But I don’t think the eur/usd move would be tied to hot money outflows. The hot money seemed to go to HK and HK$ and thus into US$ when HKMA intervened and built up reserves.

  • Posted by MMcC

    Brad – that was an enormously enjoyable post. This line in particular caught my eye: “There is only one way to square a record trade surplus with the sharp fall in reserve growth…”

    I wondered: if SAFE/PBoC decided, sometime in late Q3/early Q4, that, instead of sterilising USD1 for every USD1 of inflows, they would only sterilise, say USD0.80 or USD0.60, ceteris paribus, would that have produced meaningfully different results from your models than the ones we see above?

    I don’t intend to dispute your attribution of the change to flows – certainly I haven’t seen data that contradicts your view – I’m just trying to work out what other scenarios could cause these results from your models.

  • Posted by Twofish

    I think a lot of the “hot money” may be Chinese corporations shifting their holdings from RMB to dollars, rather than money flowing out of China. If a corporation holds RMB, then the dollars they are earning are counted as reserves, but if they switch from RMB to dollars, then this results in a drop in official reserves.

    If this is what is going on, then it is quite unusual, since most of the time these currency shifts involve transfer of funds between local and foreign corporations, but non-Chinese corporations do not hold significant amounts of RMB, so these shifts are likely between Chinese entities.

    Both the hot money in and hot money out may be partly accountable by carry trade. As long as the currency was going up, you wanted to borrow in dollars and lend in RMB. Now that the currency is heading into the other direction, a lot of these bets are going bad.

    Something to look for are “unusual” shifts in holdings between UK, Hong Kong, and the Carribean. There are a lot of Chinese holding companies that are registered in Bermuda or the BVI.

  • Posted by Indian Investor

    The 2008 Credit Panic was deliberately triggered by a cartel of very large banks and a limited set of oil companies to help the rapid resolution of geopolitical conflicts that were already entrenched. It’s been clear and obvious that Iran, Russia, Venezuela and Iceland were on the opposite side to the US and the UK.
    What’s important to know with respect to China is whether China stands in that category as well. If so, the Credit Panic will continue through most of 2009 because it’s going to take a lot of time and effort to bring the Chinese economy to its knees.
    If not the Panic will end soon because Russia is already on the brink of systemic collapse.
    Till last week I had no reason to think that China was in geopolitical conflict with the US. After some further reading yesterday I’ve concluded that I was right all along and my one comment that China is on the same side as Russia and Iran was incorrect.
    If China is on the same side as the US, or neutral, there’s very little risk of a collapse of the Obama recovery plan due to a sudden stop in credit inflows to the US Treasury from the PBoC.

  • Posted by MMcC

    Twofish: “I think a lot of the “hot money” may be Chinese corporations shifting their holdings from RMB to dollars”

    Agreed, and if you couple that with changes in the law that allow/encourage Chinese domestic companies to keep 25% of their foreign earnings abroad, along with the stated desire of ever so many Chinese companies to begin making acquisitions abroad, it becomes a much more plausible (to me) explanation than foreign-orchestrated arbitrage.

    Another factor may be the investment allocations of larger Chinese domestic institutions. China Life now has about Rmb1.14tr in assets under management. A 2% shift to foreign assets in a given quarter from an institution of that size (or a half dozen smaller ones) is going to offset a large percentage of inflows.

  • Posted by bsetser

    A change in sterilization would change the composition of the pboc’s domestic liabilities (more cash, fewer bills/ bank deposits) rather than its foreign assets.

    If a company went from holding rmb onshore to $ deposits onshore, there wouldn’t necessarily be a BoP outflow (a lot depends tho on what the bank does the fx it raises this way, and what any company that receives an fx loan does … if anyone buys a foreign asset there is an outflow). If the company shifts money to an offshore fx account, there is clearly a BoP outflow.

    there is one other possibility for the fall in q4 reserves that i left out — SAFE decided to realize the loss on some of its equity investments, not hold them at book. I have no idea if this happened, and it wouldn’t be big enough i suspect to completely change the story, tho it would reduce the magnitude of the implied hot money outflows.

  • Posted by Twofish

    The other thing I think this will illustrate if you look at the numbers very closely is how the model that people use for the Chinese government of being one monolithic entity controlled by a central bureaucracy such as SAFE, may not been too accurate.

    I think if you look closely at the flows, what you’ll find is while SAFE administrates Chinese foreign reserves, that it doesn’t necessarily control them, and that large parts of the reserves are effectively controlled by some other entity

  • Posted by john

    risky trades had a big decline in Q3-Q4 2008, resulting in capital outflows and pressures on asian currencies. this might bottom out in Q2, and result in a return of capital inflows and recovery of currencies during the second half of 2009, on very good macro

  • Posted by Indian Investor

    Ahead of Obama’s inauguration I think there’re very strong reasons to be optimistic. All the Beijing decisions are seen through the lens of maintaining the Communist Party rule in China (as Twofish has pointed out before).
    It’s highly unlikely that PBoC will suddenly stop buying US Treasuries. And there’s no reason to think that Beijing is a great geopolitical enemy for the US.
    So it’s unlikely that Obama will indulge in any sledgehammer protectionism.
    Russian reserves are falling faster than the Niagara Falls waters.It’s not clear how much longer they can do without the revenue from Gas supplies to Europe.
    Iran isn’t able to support the Hamas against the third largest Army in the world invading the Gaza to make their rockets go quiet.
    Pakistan isn’t going to get a bailout loan unless it does something drastic against the Lashkar e Taiba and other dangerous militants in its territory.
    Afghanistan will soon be the new home of the Third Division troops from Iraq.A pipeline down sotuh from the Caspian Sea to the Arabian Sea will be constructed peacefully over time.
    The Tamil Tigers have lost their capital KiliNochchi and the Sinhala Army is hunting for the Tiger leader. It’s unlikely that the Air Tigers will bomb any more oil storage facilities in the near future.
    I haven’t done enough reading to comment about Angola,Congo, Nigeria and the mysterious modern pirates of Somalia.
    Leaving the African continent out, it can be forecasted that most of the troubles are solved or about to be solved.

  • Posted by Eduardo Guelman

    Brad,
    I think you are on the spot, as it is typically the case hot money is flowing out faster than it flowed in. If your estimates are wrong in any way, it probably is underestimating outflows. However, with such huge trade surplus I think it will be hard for reserve growth to slow down.
    2009 will be hard for china, but over the long run, I think that, unless rmb is significantly revalued, or world trade collapses to zero, the secular reserve accumalation trend in china is intact. What is your opinion regarding this? Do you believe we will se china´s reserves droping in 09? I know it is too early to ask that, but your ideas on this issue would be extremelly helpfull.

  • Posted by bsetser

    Eduardo — I tend to think reserve growth continues, but at a slower pace –

    i.e. once a large share of the money that flowed in has flowed out, the underlying trade surplus will start showing up again in the reserves data. the risk here is a broad based loss of confidence — one where more money flows out now than flowed in from say 04 to mid 08 …

    when i looked at the details of China’s trade data i was struck by the fact that y/y imports from energy producers weren’t uniformly negative. my conclusion is that that the windfall to china from lower commodity prices isn’t yet fuly reflected in the data, and that alone will tend to push up the trade surplus. and as of now, non-oil imports and exports seem both to be heading down …

    a lot tho hinges on whether the us non-oil deficit continues to shrink. over time, that implies someone else’s surplus has to shrink.

    but i am still looking for $300b or so of Chinese reserve growth in 09 … (a number that implies up to $200b of hot money outflows)

  • Posted by Indian Investor

    Americans are a very likeable people because of their sense of humor and the general lack of “social status” hangups that are based on “high birth”, apart from other things, though I’m stereotyping here.

    I think most of the Americans would do well to borrow only to the extent that their monthly outflow isn’t more than around 60% of their monthly income. That’s the most important a common working American should learn from 2008.

    I do have a lot of respect for Brad Setser’s analysis in general but highly uncommon “common sense” conflicts with some of his conclusions (though I concede those conclusions may be following from some reasoning which I’m probably not “expert” enough to appreciate. )

  • Posted by Indian Investor

    More than 5000 banks have failed in the US in 2008. At the same time the 4 largest banks have been buying equity and lending money out in foreign countries for billions of dollars.
    This shows that the Federal Reserve Bank and the US Treasury are hand in glove in triggering this crisis. They should be blamed, rather than the People’s Bank of China.

  • Posted by David Pearson

    Brad,

    How does the $300b in ’09 compare to ’08 and ’07? The important number is what percentage of U.S. TOTAL (agency plus Treasury) debt issuance was purchased by China in 2007, and what will that number be 2009?

    I suspect the answer to the question above will tell us a lot about the fate of the dollar. The reason is that the Fed will likely replace China as a (%) buyer of U.S. public debt issuance.

  • Posted by Indian Investor

    My comments will most probably land as a bitter pill. But you have to understand these aren’t nationalistically biased views, and they aren’t intended to cause any harm to anyone, including the perpetrators of these sophisticated public-looting schemes.
    For instance sometime back Brad was analyzing the “rising cost” of “engineers” in Bangalore.
    This analysis just shows me he lives in a idealistic world of his own.
    The Indian IT offhsoring model works in a simple way. The IT consultants are billed at $30-$42 per hour if they’re working out of India and they’re paid around $12,000 per annum in INR. At 2000 hours a year, you get a huge difference between the billing and the HR cost ($60,000-$12,000). Similarly in the US the billing is $80-$120 per hour while the salary is around $40 per hour. There are other costs, but you have to remember the land on which the IT firms sit in India is acquired by the State Govt and given to them at throwaway prices because they bribed those officials in the 1990s.They’re exempted from customs duty on imports, sales taxes, central excise duties and every other tax other than corporate income tax.
    The Indian IT CEOs, top managements and senior business development are highly corrupt while most of the actual workers are hard working and straightforward.
    These firms have on average 350+ of the Fortune 500 on their client list. They’re in cahoots with the CIOs, CEOs and top IT management of the Fortune 500 firms.
    While these firms pay much less than they bill for the work, they routinely make payments to the corrupt American corporate IT bosses on the side.
    The big 4 international IT consulting firms bill double the amount as the Indian firms for the same work and same kind of people.They also help the corporate Fortune IT bosses siphon money out of their corporations.
    During the recent crisis there were a lot of cases where American IT workers are fired first from the company while the Indian contractors stay on. The reasons are obvious.
    In the Satyam controversy World Bank revealed that it had blacklisted Satyam for bribing Bank staff with preferential share allotments in return for orders. Two weeks later, the World Bank revealed Wipro was on their blacklist for exactly the same reason. Here you’re not even seeing the tip of the iceberg. The whole damn IT outsourcing runs on the basis of corrupt CIOs of Fortune companies siphoning money out together with the IT vendors, Indian or otherwise.

  • Posted by Twofish

    Indian: More than 5000 banks have failed in the US in 2008. At the same time the 4 largest banks have been buying equity and lending money out in foreign countries for billions of dollars.

    Indian: This shows that the Federal Reserve Bank and the US Treasury are hand in glove in triggering this crisis. They should be blamed, rather than the People’s Bank of China.

    How does this demonstrate that? Also the numbers are very fishy since there are only about 5000 banks that the FDIC supervises.

    You really shouldn’t think too much in terms of conspiracies.

  • Posted by Twofish

    Indian: The whole damn IT outsourcing runs on the basis of corrupt CIOs of Fortune companies siphoning money out together with the IT vendors, Indian or otherwise.

    At this point you have to be careful about the term corruption. No American IT CIO that I know of has every been in a position where they have *personally* received any sort of kickback, and they’d likely get fired if that where the case, since if the CIO is personally getting a kickback, that means that they are stealing/hiding money from the CEO.

  • Posted by Twofish

    Indian: The 2008 Credit Panic was deliberately triggered by a cartel of very large banks and a limited set of oil companies to help the rapid resolution of geopolitical conflicts that were already entrenched.

    This is total utter nonsense, not because banks are kind moral people, but because banks and big corporations tend to be amoral and profit-seeking. The reality is that no one in Wall Street big banks have money from this crisis. All the government money coming in is a fraction of the money that was lost and what would have been paid in bonuses had this crisis not happened.

    Also, most people on Wall Street don’t care about geopolitical control. They are in it for the money. On the one hand this leads to some bad behavior and self-destructive behavior, but on the other hand, it’s nowhere near as bad and self-destructive as the Iraq War.

    There is one great quote from Hunter Thompson.

    “In a closed society where everybody’s guilty, the only crime is getting caught. In a world of thieves, the only final sin is stupidity.”

    And there were a lot of stupid people on Wall Street.

  • Posted by gillies

    conspiracy : it is usually a mistake to identify an overriding conspiracy – the financial and political worlds are composed almost entirely of multiple shifting and competing conspiracies.

    geopolitical motives : it is also usually a mistake to identify a geopolitical motive (e g “iraq is all about oil”) because geopolitics is always about everything – never about one thing. likewise geopolitics is too important to leave to the electorate, so the only reliable guide to what current geopolitics is about is . . . it’s not about what they talked about in the election.

    friendly and hostile nations : there is no such thing to the truly ruthless operator. macchivelli might be the authority on that one . . .

    certainty : as the future is a continual and unfolding surprise – ignore any pundit who is certain about what is going to happen, especially about the timing of it.

    successful prediction. apply the black swan rule to prediction. just because a pundit was always right so far, does not mean that his current prediction is right.

    conjouring : a lot of ‘spin’ is like a conjouring trick, designed to draw your attention. to see what is really going on – always look at the other hand, the one that the conjourer is not drawing your attention to.

    capitalism : globalisation is a project that ends either in unitary global communism or a tower of babel fragmentation. i prefer the latter. capitalism is a self correcting system – if it is a system at all – and needs diversity and fragmentation to work. can you imagine a game of football with one footballer ? ?

    plunge protection, stimulus packaging : if you want to impress people, it is not the size of the intervention but the timing of it. no one has yet outdone saddam hussein – his switch from the dollar to the euro was perfect timing plus a cause of the wave he wished to catch. no wonder he got hanged.

    the dollar : i am not surprised that the dollar is strong (remember that the money in my own pocket / head is the euro.) i always had a mental picture of money ‘coming home’ at times of collapsing confidence.

    leverage : the statistic that i would most like as an aid to making common sense evaluation of global and national economic situations – would be an index of reserve ratios. just as you can say the p/e ratio on the s and p companies is x:1, i would like to have an update on the leverage of financial institutions. if big investment banks were at 30:1 and they are now at 27:1 heading back towards 12:1, that tells you all you need to know about lending in the immediate future ?

  • Posted by Invisible Hand

    Dear Indian Investor,

    There were only 25 failed banks in the US in 2008. See list at FDIC site.

    Keep your disinformation away from this blog.

  • Posted by bsetser

    stay tuned — but $300b would be well below the peak level of chinese foreign asset growth ($800b plus on a quarterly basis in q1 and q2 of 08/ $700b on a rolling 4q basis from q4 07 to q3 08). but remember hot money inflows (needed to get such large reserve growth) mean $ from the rest of the world are going into china. $ in and $ out is neither $ supportive or $ negative.

  • Posted by Exporter to GANT

    Indian Investor: You are right on the IT outsourcing cost differential. India will remain very low when compared to US. No increase in bangalore will offset the cost differential advantage.

    IF bangalore get costlier, companies tend to move to chennai (and not back to NYC) :-)

  • Posted by geert

    Thanks Brad
    Very instructive.

  • Posted by Indian Investor

    The word “conspiracy” implies something evil, and secret. In fact it isn’t a “conspiracy” at all. The objectives of the perpetrators are so well known. Think Sandra Bullock’s “World Peace”.
    How can these well meaning bankers, philosophers and Rhodes Scholars in various fields achieve their favorite “World Peace” mega dream?
    I would be most happy to dedicate myself to their “World Peace” mega-dream. And that’s why I don’t wish any harm to those people.
    If you think seriously about “World Peace” you will understand all the Setseronomics much better and everything will be plain as day and night to you.
    When the US Treasury borrows a lot of money from the People’s Bank, the two countries become mutually dependent. This creates a really big geopolitical security risk. Either of these sovereigns can become belligerent and the other sovereign can’t be used to control the belligerence.
    I wonder if poor Brad Setser really understands why he’s being encouraged to write all these tomes with these themes.
    My point is that collateral damage to the reading public can be limited if they focus on common sense ways to avoid getting caught in the “World Peace” crossfire between the “conspirators” and the would-be major world bosses like Iran’s Ayatollah Ali Khamenei, and Zimbabwe’s Robert Mugabe.

  • Posted by Twofish

    Indian Investor: The objectives of the perpetrators are so well known.

    The main objective of people in the banking and finance industry is to make money. You haven’t explained how wrecking the world financial system (which incidentally they created) does that.

    Indian Investors: How can these well meaning bankers, philosophers and Rhodes Scholars in various fields achieve their favorite “World Peace” mega dream?

    The dreams of most bankers involve fast cars more than world peace. Bankers and philosophers rarely get along with each other.

    Also you vastly overestimate the ability of people to control the global political and economic system, or how people end up with conflicting interests. Just because someone wants to do something, doesn’t mean that they are able to do it.

  • Posted by Indian Investor

    @ Twofish:
    Achieving World Peace involves financial,political and military control. In the financial sphere there has to be consolidation of ownership amongst a small set of people. This is achieved by triggering these Panics, once every few years in a particular country and one Panic per year on a worldwide average basis.
    The Panics have an impact not only on ownership of financial assets in one particular country, but on similar control in various other countries in an interlinked world.
    There’s very little difference between WaMu,Bear Sterns,Wachovia,IndyMac,Countrywide, Lehman Brothers, etc … the list of large financial institutions that failed (by failed I mean either bought out at throwaway prices or went bankrupt) and the likes of Citigroup,JP Morgan, Goldman Sachs, Bank of America,AIG .. the institutions that you now count on your fingers as the US banking industry.
    The Fed has extended probably more than $2 trillion of credit in 2008 and nobody knows which firms received that credit, against what collateral, etc. The Fed at the same time didn’t extend credit to other similar institutions, claiming that they didn’t have the right collateral. The Fed is just a private body, and its statues empower it to do everything it has actually done.
    I hope you’re able to see that while a lot of people lost in the 2008 Panic, there are clear gainers and winners as well.
    I would advise you to re-evaluate the international events of significance in the 2008 Panic from this perspective. This is already quite a long essay.

  • Posted by bluecho

    Just wanna share a bit info on CIC’s capital injection into ABC. It was stated by CIC chief at the end of 2007, not long after CIC’s establishment, that 1/3 of CIC’s equity was “promised” to boost the equity of CDB (China Development Bank)and ABC. $20B was injected to CDB on 12/31/2007 and $19B to ABC materialized in Nov.2008. The total $39B is actually less than 1/3 of $200B CIC equity, but they probably didn’t have clear idea of how much ABC would need back then. Hence, my bet is that $19B to ABC was “old” money, especially in light of the difficult investment environment for CIC to deploy its capital since its commencement.

    From almost first-hand experience, big jump of capital outflow in Dec. was partially caused by the year-end real and/or window-dressing liquidity demands for many foreign corporations. And yes, the slight depreciation scene of RMB in 4Q has largely changed mass opinion on future RMB direction, which substantially influenced hot money flow, IMHO

  • Posted by bsetser

    Bluecho — thanks.

    it you add the $67b used to buy central huijin’s stakes in the other state banks, around $106b of the CIC’s funds (about 1/2) have been used in one way or another to backstop the banks. and since i think the banks get to manage the fx from the recapitalization, by implication the state banks de facto manage about 1/2 of the cic’s portfolio. at least that is how i think of it. i would be interested in your take.

    i hadn’t thought of foreign companies liquidity needs, but now that you mention it it makes sense. holding cash in china made sense if you expected the rmb to go up and didn’t need the liquidit. neither is true now ..

  • Posted by Twofish

    Indian Investor: Achieving World Peace involves financial,political and military control.

    No it doesn’t. If you have too much control in too small a group of people, then people not in the clique get upset and if you they organization, you have a problem. The other problem is that even small groups of people rarely agree with each other so even if you had 12 people with total power, they would soon be fighting each other over it.

    Also, I hate to pull rank but I think I’m much closer to the power elite than you are, and have a better idea of how they think than you do.

    Indian Investor: In the financial sphere there has to be consolidation of ownership amongst a small set of people.

    This doesn’t work. The trouble is to do anything in business and finance you have to get the support of other people, and they aren’t going to support you if you get all of the wealth and power.

    Indian Investor: This is achieved by triggering these Panics, once every few years in a particular country and one Panic per year on a worldwide average basis.

    Since these panics destroy the wealth and power of the people that are in the financial elite, they would have to be self-destructively stupid to trigger these panics, which they sometimes are.

    Financial panics are examples of mass hysteria. If the world financial system were controlled by a few people, it would be in their interest to snap their fingers and make this all go away. The trouble is that they aren’t running the show. It’s the collective actions and beliefs of billions of people that produce these panics.

    Indian Investor: There’s very little difference between WaMu,Bear Sterns,Wachovia,IndyMac,Countrywide, Lehman Brothers, etc … the list of large financial institutions that failed (by failed I mean either bought out at throwaway prices or went bankrupt) and the likes of Citigroup,JP Morgan, Goldman Sachs, Bank of America,AIG .. the institutions that you now count on your fingers as the US banking industry.

    There is a huge difference between these groups. All of these firms have different cultures and there are often intense and bitter rivalries between them.

    Also the difference is that some of the banks were just better managed than others. What banks were good and what banks were bad wasn’t a major secret on Wall Street, and with a bit of research on google it shouldn’t have been a secret to anyone on Main Street.

    Indian Investor: The Fed has extended probably more than $2 trillion of credit in 2008 and nobody knows which firms received that credit, against what collateral, etc.

    This isn’t true. Pretty much everyone on the Street knows who got what. It’s not a deep secret. Go on google and do your research. Start with the balance sheet of the Federal Reserve and the quarterly reports of the major banks. Go into the Federal Register and take a look at administrative actions.

    It’s only a secret because most reporters are too lazy and buzy to do any original research.

    Indian Investor: The Fed at the same time didn’t extend credit to other similar institutions, claiming that they didn’t have the right collateral.

    The trouble is that loans will do you no good if you are insolvent. Section 13(3) of the Federal Reserve Act, the Fed can loan money to anyone under any conditions. It doesn’t have ask for collateral at all. Under Section 14 of the FRA, Fed can only buy securities that are government guaranteed.

    This was a problem for Lehman and not AIG, because AIG could be saved by a loan. Lehman was insolvent and couldn’t be.

    Indian Investor: I hope you’re able to see that while a lot of people lost in the 2008 Panic, there are clear gainers and winners as well.

    No one important in finance won, and no one really geopolitically won. No one that I know in finance “won” in absolute terms. The only type of winning is that you lost less money than someone else.

    Indian Investor: I would advise you to re-evaluate the international events of significance in the 2008 Panic from this perspective.

    This perspective is based on supposed facts that are simply inconsistent with what I’m seeing. Every single person on Wall Street from the CEO down to the janitor is deeply worried about losing their job, and no one is in a good mood.

  • Posted by Twofish

    bsetser: i hadn’t thought of foreign companies liquidity needs, but now that you mention it it makes sense. holding cash in china made sense if you expected the rmb to go up and didn’t need the liquidit. neither is true now ..

    Also the sale of billions of dollars in Chinese banks by, BOA, UBS, and RBS may have some impact. The people that ultimately were buying the stakes were holding RMB whereas, the big banks were getting paid in USD.

  • Posted by bluecho

    Brad: Huijin injected $80B into various China banks before the end of 2006 and became part of CIC in Sep. 2007. I doubt that the $80B has anything to do with $200B CIC capital. Without any solid proof, my impression on the $200B is that those are money TO BE invested back in 2007. Since CDB and ABC recapitalization happened after Sep. 2007, and should have gotten the funding from CIC capital. The CIC chief was quoted that part of CIC capital was designated for CDB and ABC injection when CIC just started.

    As for pre-CIC Huijin investment in banks, the banks would have used it like normal equity capital.

    Have been reading news about investment retrieved or withdrawn from large projects, especially in real estate arena. People like Li Ki-shing not only ceased investment on large scale, but has started selling some ultra high-end properties marked as “rent-only” for years. Morgan Stanley is said to be quietly looking for buyers of most, if not all, of its China RE investments, etc. etc.

    For many international companies, their China operations are probably among the best in terms of profitability and liquidity, wouldn’t be surprised to see them trying get all they can out of the country since many parents are bleeding severely. And the currency appreciation expectation are now gone…

  • Posted by Judy Yeo

    Chipping in with my 3 cents worth; am standing by my earlier guess that China’s more likely to take the 98 line than depreciation (at least one telegraph writer seems to think the same, hey some safety in numbers). As for treasuries, guessing China won’t stomp on the brakes but probably discreetly (if that were even possible)releasing the accelerator which means any observable signs of slowdown in treasuries purchase will only feed through 2nd/3rd quarter.

    as for outflows, not much of a surprise, the question is how feasible barriers are, without sparking greater fear and provoking that cascade of reaction. Am thinking Pettis must be basking in much the same manner as Roubini was last year?!

    The theme for the coming year in China’s probably conservatism, stimulus notwithstanding. With subthemes like recapitalization and relooking at the almost inevitable consequences of credit expansion – NPLs. Hot flows will probably intensify and who knows, perhaps the chinese authorities might even be inspired to relook at its reserve invesytment strategies.

  • Posted by Jim Bao

    Hi Brad,

    Given the strict capital control, severe hot money inflow and outflow are unlikely. I would agree with Nick Lardy’s explanation, but perhaps more than recapitalizing Ag Bank, China has converted the balance of FX reserve decline in the Q to fund other domestic initiatives (there are plenty of those as outlined by the 4T RMB stimulus plan). If this is indeed the case, it will mark the beginning of a long trend that will generate significant macro investing opptys.

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