Opinion / China Watch
Viewpoint: Blue Christmas for China
By William Pesek (Bloomberg)
Updated: 2006-11-03 09:21
It's beginning to look like Christmas for China's central bank, but
officials there can't be overjoyed. The season of peace and joy is
anything but that for the folks in Beijing trying to tame an economy that
seems constantly in the holiday spirit. Try as they may, Chinese
authorities can't seem to get growth to less than 10 percent.
For a world in need of economic engines, China just never stops giving.
For Chinese officials, it's a daunting challenge that could result in
overheating and the hard landing some predict in the world's No.4 economy.
So far, China has held things together remarkably well, and without the
sharp increase in the yuan's value that the United States has been
demanding. All this has placed a tremendous burden on the People's Bank
of China.
It's a daunting balancing act, really. The central bank must try to
regulate China's work-in-progress economy without traditional tools like
a highly liquid bond market. And even if so-called hot money is slowing,
thanks to policy steps taken by the government, the central bank is very
much in the hot seat.
"Things are about to get a lot harder for the PBOC," says Stephen Green,
an economist at Standard Chartered in Shanghai. "It's going to take a
gargantuan effort on their part to keep market yields stable."
While much of the world slows down for the holidays, the People's Bank of
China will have to step up efforts to maintain the current level of bond
and money-market interest rates. On that front, Green says, the bank
faces a "triple whammy of liquidity."
Holiday shopping is one challenge. At year end, China's trade surplus
tends to swell because of all the shopping that consumers from Cleveland
to Tel Aviv do at China Inc. From October to December, $35 billion to $40
billion of funds will enter China through the trade account, Green
predicts. Add in foreign direct investment and other money, and Green
expects close to $60 billion of inflows in the current quarter.
Debt management is the second challenge. "Several tons" of central-bank
bills are coming up for redemption, says Green, who puts the figure at
$78 billion in the current quarter and an additional $108 billion in the
first three months of 2007. "All this has to be mopped up with more bills
before the PBOC even gets started sterilizing new flows," Green says.
Because China doesn't "sterilize" all the foreign exchange reserves it
accumulates, its money base increases, undermining efforts to curb credit
growth. Sterilization means that steps are taken to neutralize the
effects of rising reserves on money growth. China's stockpile of reserves
is approaching $1 trillion.
Finally, this is the season when China tends to spend more money than it
saves. Economists note that increased amounts of revenue often flow to
local governments and China's various ministries during the fourth
quarter. It means the central bank will have to help smooth out
government spending, too.
"The bottom line is this: rates are going to come under more pressure to
fall," Green says. "Unless the PBOC ramps things up, the yield curve is
going to sink back down under the weight of these mammoth inflows."
Given the magnitude of the task, it would be remarkable if China's
interest-rate system didn't provide even more stimulus in an economy that
needs less. As the International Monetary Fund noted this week,
"financial innovations, such as the introduction of short-term corporate
bills and discount bills, have lowered borrowing costs."
Moreover, the IMF said, "without a significant further tightening of
monetary policy, a continued rise in credit growth would fuel a further
increase in investment growth that would likely be followed by price
declines in overcapacity sectors and an associated rise in banks'
nonperforming loans."
It doesn't help that excess cash generated by the easy- money policies of
central bankers from Washington to Tokyo continues to head China's way.
Once upon a time, a central banker's job was to take away the punchbowl
just as the party got going. Now, all too many are leaving the punchbowl
out too long.
For all the progress that Asia has made in addressing the causes of the
1997 crisis, the region is still too dependent on exports and not enough
on domestic demand. That means holding interest rates low so that
currencies won't strengthen. It leaves Asia vulnerable to inflation and
bubbles in the months ahead.
At a minimum, it may cause short-term interest rates and long-term bond
yields in Asia to be higher next year than many investors expect. Letting
currencies rise in value could alleviate some inflation risks in Asia,
especially in China.
"How long are you going to keep holding it back?" asks Stephen Gollop,
chief executive of the investment advisory firm Bridgewater in Hong Kong.
The Chinese currency "is way behind any of the other currencies out
there."
The latest sign of how much cash is rushing to China was last month's
share sale by Industrial & Commercial Bank of China. The world's biggest
initial public offering raised $19.1 billion. It attracted more than $500
billion in orders, underlining how much liquidity is sloshing around the
globe.
Investors watching their ICBC shares surge may be thinking that Christmas
has come early this year. Officials at China's central bank are probably
hoping it doesn't come at all.
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