Deflation: Why falling prices in China raise concerns

Published

By Annabelle Liang & Nick Marsh

BBC News, Singapore

China's economy has slipped into deflation as consumer prices declined in July for the first time in more than two years.

The official consumer price index, a measure of inflation, fell by 0.3% last month from a year earlier.

Analysts said this increases pressure on the government to revive demand in the world's second largest economy.

This follows weak import and export data, which raised questions about the pace of China's post-pandemic recovery.

The country is also tackling ballooning local government debt and challenges in the housing market. Youth unemployment, which is at a record high, is also being closely watched as a record 11.58 million university graduates are expected to enter the Chinese job market this year.

Falling prices make it harder for China to lower its debt - and all the challenges which stem from that, such as a slower rate of growth, analysts said.

"There is no secret sauce that could be applied to lift inflation," says Daniel Murray from investment firm EFG Asset Management. He suggests a "simple mix of more government spending and lower taxes alongside easier monetary policy".

When did prices start falling?

Most developed countries saw a boom in consumer spending after pandemic restrictions ended. People who had saved money were suddenly able and willing to spend, while businesses struggled to keep up with the demand.

The huge increase in demand for goods that were limited in supply - coupled with rising energy costs after Russia's invasion of Ukraine - inflated prices.

But this is not what happened in China, where prices did not soar as the economy emerged from the world's tightest coronavirus rules. Consumer prices last fell in February 2021.

In fact, they have been at the cusp of deflation for months, flatlining earlier this year due to weak demand. The prices charged by China's manufacturers - known as factory gate prices - have also been falling.

"It is worrisome as far as it shows that demand in China is poor while the rest of the world is awakening, especially the West," Alicia Garcia-Herrero, an adjunct professor at the Hong Kong University of Science and Technology, said.

"Deflation will not help China. Debt will become more heavy. All of this is not good news," she added.

Why is deflation a problem?

China produces a large proportion of the goods sold around the world.

A potential positive impact of an extended period of deflation in the country may be that it helps to curb rising prices in other parts of the world, including the UK.

However, if cut-price Chinese goods flood global markets it could have a negative impact on manufacturers in other countries. That could hit investment by businesses and squeeze employment.

A period of falling prices in China could also hit company profits and consumer spending. This may then lead to higher unemployment.

It could result in a fall in demand from the country - the world's largest marketplace - for energy, raw materials and food, which would hit global exports.

What does this mean for China's economy?

China's economy is already facing other hurdles. For one, it is recovering from the impact of the pandemic at a rate that is slower than expected.

On Tuesday, official figures showed that China's exports fell by 14.5% in July compared with a year earlier, while imports dropped 12.4%. The grim trade data reinforces concerns that the country's economic growth could slow further this year.

China is also dealing with an ongoing property market crisis after the near-collapse of its biggest real estate developer Evergrande.

The Chinese government has been sending the message that everything is under control, but has so far avoided any major measures to encourage economic growth.

Building confidence among investors and consumers will be key to China's recovery, Eswar Prasad, a professor of trade policy and economics at Cornell University, said.

"The real issue is whether the government can get confidence back in the private sector, so households will go out and spend rather than save, and businesses will start investing, which it hasn't accomplished so far," Professor Prasad said.

"I think we're going to have to see some significant stimulus measures (including) tax cuts."

Additional reporting by BBC business reporter Peter Hoskins.

https://www.bbc.com/news/business-66435870

Money to burn? China firms seek new investors

March 22, 2016, Tuesday

SHANTOU, CHINA: The Guangdong Yixiang Folk Culture Co has a licence to print money – thousands of lookalike US dollars roll off its clattering presses every minute, intended as burnt offerings for the heavenly bank accounts of Chinese ancestors.

But in the earthly realm, small- and medium-sized companies like this have a devil of a time getting a loan from China’s big state-owned banks, which prefer to lend to large, often state-owned, firms.

Business is booming, says general manager Xu Shaohong, and it is ready to expand its products from ‘Bank of Hell’ currency to paraphernalia for events earlier in the cycle of life, such as weddings and births.

Like thousands of other capital-starved enterprises in the upside-down world of Chinese corporate finance, it has applied to list on the National Equities Exchange and Quotations (NEEQ), a little-known stock market based in Beijing.

The NEEQ, also known as the ‘New Third Board’, has exploded, growing from 356 companies at the end of 2013 to more than 6,000 today – with nearly 1,000 joining since January 1.

It already has twice as many listings as the Shanghai and Shenzhen stock exchanges combined and is expected to add as many as 5,000 more by the end of 2016.

“It’s the next NASDAQ,” Xu said, referring to the US exchange favoured by technology startups.

As the world’s second-largest economy falters, Beijing is counting on small, private companies to help move it away from dependency on heavy industry and plodding state-owned enterprises.

Guangdong Yixiang is a prime example. Its offices in the southern city of Shantou are bright and modern.

It has almost 80 employees and mostly exports to Hong Kong and diaspora Chinese communities across Asia.

Documents submitted to NEEQ as part of its listing application show three years of healthy profits – more than two million yuan (US$300,000) in 2015.

With reliable income from one of life’s two certainties, it would seem to be an attractive borrower.

For years, China has promised to make it easier for such firms to access capital, and last year Premier Li Keqiang urged the country’s banks to increase financing for them.

But lenders remain risk-averse, said Suzie Wu, a managing partner at Tianxing Capital, which invests in NEEQ-quoted firms.

“They actually only support the big companies,” she said, leaving companies like Guangdong Yixiang to turn to ‘shadow banks’, unofficial lenders that often charge exorbitant, profit-sapping interest rates.

“Until the NEEQ market came, it was very difficult for the small, medium enterprises to get financial support.”

There were 2,565 share issues on NEEQ last year, generating US$18.7 billion, according to data from the exchange, with another US$4.07 billion raised in the first two months of this year.

But unlike most major global stock exchanges, joining NEEQ does not of itself provide corporate funding, as new listings do not necessarily sell shares in an initial public offering.

When Chinese and Asian football champions Guangzhou Evergrande Taobao – one of the most high-profile companies quoted on NEEQ – listed last year, it simply declared its shares to be worth 40 yuan apiece.

It was not until this January that it sold new investors a little more than five percent of itself, raising 869 million yuan – giving it a market capitalisation close to that of Manchester United.

More than half the listed companies have never recorded a single share sale on the board, data on the NEEQ website shows.

But companies who cannot find buyers can still use their shares as ‘collateral for loans’, said Christopher Balding, of Peking University’s HSBC Business School in Shenzhen.

As such “being on the New Third Board is better than not being on the New Third Board”, explained Yang Peng, a consultant for Guangdong Yixiang.

If nothing else “it will definitely make it much easier to get a bank loan”.

Loose listing requirements are another large part of the NEEQ’s appeal, a contrast to the heavily regulated flotation process in Shanghai and Shenzhen.

Until now, companies wanting to go public in China have generally had to show years of profitability, but the New Third Board asks them to demonstrate little more than two years of existence and that their business activities are legal.

As such, Balding said, the bourse does not require “full and accurate disclosure” of the “financial risks that investors might be facing”.

But Xu, the banknote printer, had no qualms, imagining a future financed by NEEQ investors, with automated production lines and orders fulfilled online.

Who knows, she said, “maybe we can even make tombstones”. — AFP

Read more: http://www.theborneopost.com/2016/03/22/money-to-burn-china-firms-seek-new-investors/#ixzz43i6UdkX3

A plea for help: How China asked the Fed for its stock crash play book

 March 22, 2016, Tuesday

WASHINGTON: Confronted with a plunge in its stock markets last year, China’s central bank swiftly reached out to the US Federal Reserve, asking it to share its play book for dealing with Wall Street’s ‘Black Monday’ crash of 1987.

The request came in a July 27 email from a People’s Bank of China official with a subject line: “Your urgent assistance is greatly appreciated!”

In a message to a senior Fed staffer, the PBOC’s New York-based chief representative for the Americas, Song Xiangyan, pointed to the day’s 8.5 per cent drop in Chinese stocks and said “my Governor would like to draw from your good experience.”

It is not known whether the PBOC had contacted the Fed to deal with previous incidents of market turmoil.

The Chinese central bank and the Fed had no comment when reached by Reuters.

In a Reuters analysis last year, Fed insiders, former Fed employees and economists said that there was no official hotline between the PBOC and the Fed and that the Chinese were often reluctant to engage at international meetings.

The Chinese market crash triggered steep declines across global financial markets and within a few hours the Fed sent China’s central bank a trove of publicly-available documents detailing the US central bank’s actions in 1987.

Fed policymakers started a two-day policy meeting the next day and took note of China’s stock sell-off, according the meeting’s minutes. Several said a Chinese economic slowdown could weigh on America.

Financial market contagion from China was one of the reasons cited by the Fed in September when it put off a rate hike that many analysts had expected, a sign of how important China has become both as an industrial powerhouse and as a financial market.

The messages, which Reuters obtained through an Freedom of Information Act request, show how alarmed Beijing has become over the deepening financial turmoil and offer a rare insight into one of the least understood major central banks.

The exchanges also show that while the two central banks have a collegial relationship, they might not share secrets even during a crisis.

“Could you please inform us ASAP about the major measures you took at the time,” Song asked the director of the Fed’s International Finance Division, Steven Kamin in the July 27 email.

The message registered in Kamin’s account just after 11 a.m. in Washington. Kamin quickly replied from his Blackberry: “We’ll try to get you something soon.”

What followed five hours later was a 259-word summary of how the Fed worked to calm markets and prevent a recession after the S&P 500 stock index tumbled 20 percent on Oct. 19, 1987.

Kamin also sent notes to guide PBOC officials through the many dozens of pages of Fed transcripts, statements and reports that were attached to the email.

All of the attached documents had long been available on the Fed’s website and it is unclear if they played a role in shaping Beijing’s actions.

Kamin’s documents detail how the Fed began issuing statements the day after the market crash, known as Black Monday, pledging to supply markets with plenty of cash so they could function.

By the time Song wrote to Kamin, China had spent a month fighting a stock market slide and many of the actions taken by the PBOC and other Chinese authorities shared the contours of the Fed’s 1987 game plan. — Reuters

Read more: http://www.theborneopost.com/2016/03/22/a-plea-for-help-how-china-asked-the-fed-for-its-stock-crash-play-book/#ixzz43i5QBQDZ

Chinese central bank under pressure to weaken yuan further

Sources say China's move to devalue its currency reflects a growing clamour within government circles for a weaker yuan to help struggling exporters, ensuring the central bank remains under pressure to drag it down further in the months ahead. – Reuters pic, August 12, 2015.

China's move to devalue its currency reflects a growing clamour within government circles for a weaker yuan to help struggling exporters, ensuring the central bank remains under pressure to drag it down further in the months ahead, sources said.

The yuan has fallen almost 4% in two days since the central bank announced the devaluation yesterday, but sources involved in the policy-making process said powerful voices inside the government were pushing for it to go still lower.

Their comments, which offer a rare insight into the argument going on behind the scenes in Beijing, suggest there is pressure for an overall devaluation of almost 10%.

 "There have been internal calls for the exchange rate to be more flexible, or depreciated appropriately, to help stabilise external demand and growth," said a senior economist at a government think-tank that advises policy-makers in Beijing.

"I think yuan deprecation within 10% will be manageable. There should be enough depreciation, otherwise it won't be able to stimulate exports."

The Commerce Ministry, which today publicly welcomed the devaluation as an export stimulus, had led the push for Beijing to abandon its previous strong-yuan policy.

Reuters could not verify how much influence Commerce Ministry officials had wielded in the decision to drive the yuan lower, but the sources said its officials were claiming victory after a long lobbying campaign against what some of them regarded as over-zealous reform led by the central bank.

The People's bank of China (PBOC) had been keeping the yuan strong to support the ruling Communist Party's goal of shifting the economy's main engine from exports to domestic demand.

A stronger yuan boosts domestic buying power, helps Chinese firms to borrow and invest abroad, and encourages foreign firms and governments to increase their use of the currency.

Until the devaluation, the currency had appreciated overall by 14% over the past 12 months on a trade-weighted basis, according to data from the Bank for International Settlements.

Premier Li Keqiang had repeatedly ruled out devaluation, but increased risks to economic growth, exacerbated by recent stock market turmoil, increased pressure to reverse course, the sources said.

At the weekend, China posted a shock 8.3% slump in July exports.

"Exporters face very big pressure, and China's economy also faces very big downward pressure," said a researcher at the commerce ministry's own think-tank, which recommended earlier this year that the government should unshackle the yuan.

"The yuan depreciated only slightly versus the dollar, but it has gained sharply against other currencies. China's economy and trade are no longer strong; why should the yuan be strong?"

He said he believed the yuan could fall to 6.7 by year-end, which would represent a near 9% decline since the eve of the devaluation. It traded around 6.43 against the dollar today, its lowest since August 2011.

The PBOC described its devaluation as a one-off move designed to make the currency more responsive to market forces.

The central bank guides the market daily by setting a reference rate for the yuan, from which trade may vary only 2%. Yesterday, it said it was setting the midpoint based on market forces, which have been willing the yuan lower.

Beijing is determined to achieve its economic growth target of 7% for this year. Top leaders will chart the course for the next five years at a meeting in October, and they are likely to continue targeting annual growth of around 7%.

"They (top leaders) are determined to hit 7% target. The downward pressure is big (but) so is the determination," said an economist inside the cabinet's think-tank.

Beijing prefers a gradual devaluation because a single, big move could spark capital flight and undermine its goal of fostering global use of the yuan in trade and finance, sources said.

China has been lobbying the IMF to include the yuan in its basket of reserve currencies, known as Special Drawing Rights, which it uses to lend to sovereign borrowers. This would mark a major step in terms of international use of the yuan.

The IMF said today that the central bank's new way of managing the exchange rate appeared to be a welcome step.

"There is definitely downward pressure on the economy, but we cannot rely (alone) on currency depreciation," said Zhu Baoliang, chief economist at the State Information Centre, a top government think-tank. – Reuters, August 12, 2015.

- See more at: http://www.themalaysianinsider.com/business/article/chinese-central-bank-under-pressure-to-weaken-yuan-further#sthash.dx7bFam1.dpuf

The graph that shows Chinese shares are in a bubble

The Shanghai market has more than doubled in a year, while another crucial measure suggests investor demand is unsustainable

A lot of attention has been focused on the Chinese stock market recently following its spectacular rise. The SSE Composite, the main index for the Shanghai exchange, has risen by about 140pc in the past year.

This has, naturally enough, given rise to fears of a bubble, although not all commentators are convinced. Using the popular "price to earnings" or p/e measure of value, the market is trading at about 20 times earnings, well below its previous high in 2007 of around 40 times. For comparison, the London market currently trades at about 15.5 times earnings.

• Chinese stock market hits seven year high

But one graph (below) has convinced investors at Monogram, a London-based fund manager, that the market is indeed in a bubble.

It plots the combined value of all the share trades placed in Shanghai each day and shows that the figure has risen hugely since 1997 but at a much greater pace over the past year or so. A yuan is worth about 10p, so shares worth about £83bn are currently being traded every day.

“If this is not a bubble then it’s hard to imagine what one looks like," said Paul Marson, Monogram's chief investment officer. "The average daily stock market turnover has increased 10-fold in the past year to 830bn yuan from 80bn."

He said the root cause was an increase in lending by China's banks, allied with increased appetite for shares as the Chinese property loses its appeal.

"An enormous amount of liquidity has gone from inflating the property market, which is now deflating, to inflating stock prices,” Mr Marson said.

He added: “This is a very unhealthy sign for the global economy. It can only end in tears. Bubbles always leave behind more problems than they resolved.”

• Tom Stevenson: China’s stock market bubble shows no sign of bursting yet

By Richard Evans

27 May 2015

http://www.telegraph.co.uk/finance/personalfinance/investing/shares/11630704/The-graph-that-shows-Chinese-shares-are-in-a-bubble.html

The Next Financial Crisis In 2015 China Property Bubble Tipping Point

China cuts interest rates for third time in six months as economy sputters

May 11, 2015

"China's economy is still facing relatively big downward pressure," the PBOC said.

China cut interest rates for the third time in six months on Sunday in a bid to lower companies' borrowing costs and stoke a sputtering economy that is headed for its worst year in a quarter of a century.

Analysts welcomed the widely-expected move, but predicted policymakers would relax reserve requirements and cut rates again in the coming months to counter the headwinds facing the world's second-largest economy.

The People's Bank of China (PBOC) said on its website it was lowering its benchmark, one-year lending rate by 25 basis points to 5.1 per cent from May 11. It cut the benchmark deposit rate by the same amount to 2.25 per cent.

"China's economy is still facing relatively big downward pressure," the PBOC said.

"At the same time, the overall level of domestic prices remains low, and real interest rates are still higher than the historical average," it said.

Sunday's rate cut came just days after weaker-than-expected April trade and inflation data, highlighting that China's economy is under persistent pressure from soft demand at home and abroad.

While the PBOC acknowledged the difficulties facing China's economy, it said in its statement accompanying the announcement that it wants to strike a balance between supporting growth and deepening structural reforms.

As part of these reforms, it lifted the ceiling for deposit rates on Sunday to 1.5 times the benchmark level, the biggest increase in the ceiling since it began to liberalise the interest rate system in 2012.

More easing ahead

Economists had said it was a matter of when, not if, China eased policy again after economic growth in the first quarter cooled to 7 per cent, a level not seen since the depths of the 2008/09 global financial crisis.

Indeed, some analysts have even said recently that the PBOC had fallen behind the curve by not responding aggressively enough to deteriorating conditions.

With China set to publish more key economic data on Wednesday, including industrial output and investment, the timing of the rate cut could add to worries that figures may disappoint across the board again, as they did in March.

For now, however, some were confident that policymakers can arrest the slide.

"Intensified policy loosening will help effectively halt the economic slowdown," said Xu Hongcai, a senior economist at China Centre for International Economic Exchanges, a well-connected think-tank in Beijing.

A cooling property market and slackening growth in manufacturing and investment have weighed on the Chinese economy. Annual growth is widely forecast to sag to 7 per cent this year, down from 7.4 per cent in 2014.

In an attempt to energise activity, the PBOC has now lowered interest rates and relaxed the reserve requirement ratio (RRR) five times in six months, and many economists believe more policy loosening is in store.

This is partly because despite the steady drum roll of policy easing, there are indications it has not benefited the real economy. Some data suggests banks are not passing on lower interest rates to borrowers, and credit is still not flowing to the sectors in most need of the funds.

"The effectiveness of the rate cut won't be very big," said Li Qilin, an economist at Minsheng Securities. "The PBOC has already cut benchmark interest rate by a total of 65 basis points, but borrowing costs have only fallen marginally."

Struggling banks

Banks are also struggling as the economy founders. Lending has slowed, bad loans are piling up, and profits margins are getting squeezed as China liberalises its interest rate market. Banks' earnings reports last month showed profit growth hit a six-year low in the first quarter.

Given these challenges, the PBOC said it does not expect banks to pay savers the maximum deposit rate allowed by authorities.

And with the prospect that borrowing costs may stay stubbornly elevated, government economists told Reuters earlier this month authorities may ramp up state spending to shore up growth, in the hope that fiscal policy would work where monetary policy hasn't.

But Li Huiyong, an economist at Shenwan Hongyuan Securities, cautioned against thinking that lower borrowing costs would not trickle down to businesses and consumers at some point.

"Don't underestimate the cumulative effect of the cuts in interest rates and RRR," Li said. "This won't be the last cut.

"The rate could be lowered to 2 per cent at least, and we expect the economy to gradually stabilise in the coming two quarters."

Reuters

The Shanghai Composite Index dived 5.2 per cent as volumes spiked to the highest. 15 CSI300 components plunged by the maximum-allowed 10 per cent.

China shares suffered their worst daily loss in almost four years on Monday, taking Hong Kong markets lower, with financials hammered on fears that the central bank would keep money tight and economic growth could slow sharply.

Despite money market rates easing for a second-straight session on Monday, mainland investors remained jittery about monetary conditions and braced for disappointment when the People's Bank of China conducts a scheduled open market operation on Tuesday.

The CSI300 of the top Shanghai and Shenzhen listings plunged 6.2 per cent. The Shanghai Composite Index dived 5.2 per cent as volumes spiked to the highest in about a month. Monday's losses were their worst since August 31, 2009.

The Hang Seng Index slid 2.2 per cent to 19,814 points, closing below the 20,000-point mark for the first time since September 11. The China Enterprises Index of the leading Chinese listings in Hong Kong tumbled 3.2 per cent to its lowest since October 2011.

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At $US10 billion, Hong Kong turnover was off Friday's three-month high, but was still some 20 per cent more than its average in the last 20 sessions. Short selling accounted for 13.6 per cent of total turnover, versus the 8 per cent historical average.

Late Monday morning, share-losses accelerated in rising volumes after the Chinese central bank described liquidity in the country's financial system as "reasonable", repeating what was said in a Sunday commentary in the official Xinhua news agency.

The commentary also said the latest spike in money market rates was a result of market distortions caused by widespread speculative trading and shadow financing. The central bank, in its quarterly report on Sunday, pledged to "fine tune" existing "prudent" monetary policy.

"I think the market is expecting 'fine-tuning' to mean a tightening of liquidity moving forward, especially after the way official media talked about shadow financing over the weekend," said Cao Xuefeng, Chengdu-based head of research at Huaxi Securities.

"People are quite jittery ahead of the first of two (PBOC) open-market operations for the week on Tuesday. In this market environment, it's tough to call a bottom, fears could spread about funding for companies," Cao added.

The weakness in the mainland markets also extended to the property and other growth-sensitive sectors. A Xinhua report that 30.9 billion yuan of shares could become tradeable further weighed on markets, a move that may potentially compete for already tight liquidity.

Among CSI300 component stocks, only four finished the day with gains. Poly Real Estate and Southwest Securities were among 15 CSI300 components that plunged by the maximum-allowed 10 per cent.

Warren Buffett-backed Chinese automaker BYD plunged 11 per cent in Hong Kong after CLSA analysts repeated their sell call. They see its share price down 80 per cent from Monday's close, believing its new F3 sedan has been launched too late.

Banks hammered

Monday's plunge came despite the overnight repo rate, a key measure of funding costs in China's interbank market, falling by more than two percentage points to 6.64 per cent on a weighted-average basis, its lowest since last Tuesday. It had peaked near 12 per cent last Thursday.

Among the biggest losers were smaller banks seen as more reliant on short-term interbank funding. The Shanghai financial sub-index skidded 7.3 per cent in its worst day since November 2008, during the financial crisis that started that year.

Shanghai-listed China Minsheng Bank and Industrial Bank, along with Shenzhen-listed Ping An Bank all plunged by 10 per cent. Minsheng's Hong Kong listing skidded 8 per cent in its worst day since October 2011.

Minsheng shares, some of the most popular in both markets earlier this year, are now down 40 percent from a peak in January. They are down 19.4 per cent on the year, compared to the 22 per cent slide for the H-share index.

Among the "Big Four" Chinese banks listed in Hong Kong, Agricultural Bank of China (AgBank) and Industrial Bank of China (ICBC) had the biggest percentage losses, 2.9 and 3 per cent, respectively.

Reuters

Read more: http://www.smh.com.au/business/markets/worst-day-in-four-years-for-china-shares-20130624-2osyz.html#ixzz2XB05LY8W

Index Chart for SHCOMP

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The Shanghai Stock Exchange Composite Index is a capitalization-weighted index. The index tracks the daily price performance of all A-shares and B-shares listedon the Shanghai Stock Exchange. The index was developed on December 19, 1990 with a base value of 100. Index trade volume on Q is scaled down by a factor of 1000.

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