China Knows a Thing or Two About Trader Tantrums
(Bloomberg Opinion) -- Quantitative easing, fiscal stimulus. Despite the billions of dollars promised, it seems global financial markets can’t stop sliding. Meanwhile China, the epicenter of the coronavirus outbreak, has remained an ocean of relative calm. How has Beijing managed to pull this off?
Christine Lagarde, for one, must be desperate to know. The European Central Bank president got a taste of traders’ impossible expectations Thursday, when they starting dumping stocks even before she spoke, disappointed that expected rate cuts hadn’t materialized. Lagarde failed to demonstrate the “whatever it takes” attitude of her predecessor that we all wanted to see.
Compare that with China. Yes, the nation has given the world a big headache. Still, its sell-off has been fairly mild. Just look at the MSCI China Index, which is down 10% this year — peanuts next to the S&P 500’s 23% slide. The MSCI index is a better gauge of global investors’ attitudes about the mainland than the Shanghai benchmark, because most of its component stocks are traded offshore.
More importantly, China’s bond market is still open, which lowers the chance of a credit crunch and any unpleasant feedback to stocks. Case in point: Junk-rated Yanzhou Coal Mining Co. just issued 5 billion yuan ($712 million) worth of bonds with coupon rates ranging between 2.99% and 4.29%. By comparison, China’s 1-year benchmark lending rate is 3.15%. This is quite an accomplishment considering an oil price war and the virus have practically shut down high-yield bond markets elsewhere, especially in the energy and mining sectors.
Those less familiar with China might say it's easy to coordinate fiscal and monetary policy in a command economy. That’s certainly true. If you dig deeper, however, Beijing’s policy response has been quite mild. When financial markets are in a panic, it’s not the actual amount of stimulus but the frequency that matters. You’ve got to feed traders with small candies, preferably daily.
Beijing appears to be throwing the kitchen sink at the problem, revising rules on the go and flashing media outlets with grand, empty promises on a regular basis. So far, traders have gobbled it up and are feeling assured that President Xi Jinping is on this.
What has Beijing done, really? The 10 basis point cut to its benchmark rate is nothing compared to the Federal Reserve’s inter-meeting 50 basis point reduction last week. The People’s Bank of China has promised 800 billion yuan of re-lending facilities to support virus-hit enterprises as well as smaller businesses. It has a history of doing much more, such as the 3.5 trillion yuan it has plowed into shantytown developments since 2015.
Now for the fiscal side of things. Beijing has allowed municipal governments to issue special-purpose bonds early — to the tune of 1.8 trillion yuan — and various localities have vowed to spend 3.5 trillion yuan on infrastructure. Those lofty numbers may well amount to absolutely nothing, as my colleague Anjani Trivedi and I have both written.
This brings us to the problem the Federal Reserve will face next week. By selling off on Lagarde’s response Thursday, markets are just preparing Chairman Jerome Powell for the kind of treatment he may get. Futures traders are already betting the Fed will take its benchmark rate all the way to zero. Powell may have no choice but to follow the markets.
How did the Fed allow futures markets to fester to such an extent? The central bank needs to learn what’s already painfully obvious in China: Traders are like children, prone to wild imaginations and tantrums. You’ve got to keep their sugar level steady, like Beijing has done, with frequent policy meetings and banker lunches.
It may just be a matter of time before investors realize China’s lofty ambition lacks substance, and stocks will drift lower. Unlike the rest of the world, we’re not seeing 2008-style meltdowns on the mainland yet. But as the U.S. well knows, such drastic stock declines can trigger a fast deterioration of financial conditions that raises the risk of recession.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
Shuli Ren is a Bloomberg Opinion columnist covering Asian markets. She previously wrote on markets for Barron's, following a career as an investment banker, and is a CFA charterholder.
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