Chinese Lending, Liquidity Runs, and Things You Did Not See Coming (h/t FT Alphaville)

Interesting things going on in China. New 3-month bills were auctioned off, with a yield that’s 4 basis points higher than the previous week, and caught everyone off guard in the process. Yahoo! News Malaysia said it best by saying the action “surprised the market.” Shanghai fell 2%, Hang Seng off by 0.66%, and the Nikkei lost 0.46%. I hadn’t been paying attention to 3-month bill auctions in China, so color me surprised at the increase in yield along with everyone else. This is clearly a move to pull liquidity out of the market and to prevent a real nasty bout of asset price inflation.

To coincide with that surprise, Bloomberg has an article out that shows the Chinese are also acting to curb lending because in the view of China’s chief banking regulator, “structural bubbles threaten to emerge.” While the Chinese are anything but a market-based economy, there’s recognition that excessive lending/leverage is definitely an economic ‘bad.’ As the last 2 years should make clear to us all, regulation of the money supply and credit is not something you can slouch on. If anything, the real estate boom and subsequent credit crunch should be included in Charles Mackay’s book as a chapter named “No, We Haven’t Learned Anything.”

Of course, with all things being equal, if the Chinese let their currency float, the strength in the Yuan would help mitigate some of the things they are trying to head off with regulatory jawboning, tightening reserve requirements and everything else they’ve done. But they’re not ready to give up the ghost of record trade surpluses yet, so the discussion is moot for the moment. Maybe they’ll realize this sooner rather than later, but I’m not holding my breath waiting for it to happen.

While the equity price action was strongest in Shanghai, I think the strength of that sell-off was pretty immense, all for 4 bps. It’s also a reflection of how much cheap liquidity is supporting asset prices right now. In a ZIRP world, I can only imagine what things will look like if we get a 25 or dare I say, a 50 bp move to the upside.

It will literally be like watching an elephant try to pass through the eye of a needle.


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Filed under government, macro, Markets, Monetary, Way Forward

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