Global markets’ roaring start to the year was rudely interrupted early this week. China has begun to tighten monetary policy sooner than expected. The central bank has raised the reserve requirement ratio for banks by 0.5%, which tempers their ability to make loans. It also hiked interest rates in the interbank market modestly for the second time in less than a week. Most markets suffered their first significant fall of the year on Tuesday, while commodities and commodity currencies slid – a Chinese slowdown presages less demand for raw materials.
What the commentators said
China had a “largely bruise-free journey” through the global downturn, thanks to a state-mandated “spree of easy money”, said Michael Wines in The New York Times. Bank lending doubled in 2009, spurring a boom in investment. But potential trouble is mounting as the economy begins to overheat. A major worry is that “too much of the stimulus money was dumped into unprofitable projects and bad loans that will surface in a few years”.
Consumer inflation is reviving, having turned positive in November after nine months of falling prices. The liquidity spree has blown up bubbles in stocks and property. In big Chinese cities, flats are selling for 15-20 times average household income, said Peter Tasker in the FT. That’s more than in Japan at the peak of its bubble. Speculative foreign money is also driving up asset prices.
The immediate trigger for the higher reserve ratio was a report that in the first week of January alone, bank lending hit $88bn, not far off last year’s monthly average. Nonetheless, the bank’s move looks like “scooping water out of the sea”, said Breakingviews’ Wei Gu. More than three times the amount of money it takes out of the system is set to flow back in soon as a tranche of government debt matures. Estimated speculative inflows in the fourth quarter exceeded the money now to be withdrawn. “More dramatic moves” are needed to curb the banks’ lending frenzy. This is “tweaking, not tightening”.
But the government daren’t tighten too much, said Capital Economics. With consumption set to fall as tax-breaks are removed and global demand likely to be lacklustre, there is no growth driver to replace the lending-driven investment boom. So without continued stimulus, growth is likely to slow to a “politically-unpalatable” sub-8%. Caught between ending the boom and risking social unrest, or allowing even bigger investment and asset bubbles, China, as David Wighton put it in The Times, is “on thin ice”.