China is complicated and raises many questions for investors. On the one hand, China's economy is growing more slowly at 7.4% last year, compared with 7.7% in the previous two years. Furthermore, because the base was much higher last year, the gradual increase in the size of the economy was 100% greater than the increase from a decade ago, when GDP rose by 10%. Therefore, the International Monetary Fund estimates that China accounted for almost a third of global growth last year. With income adjusted for inflation to about 7% in China, compared to 2% in the US, consumer spending is booming, up 11% versus 2% here. Headlines, however, are telling us that China's economy is doomed.
This is the first in a series of three parts Sinology designed to answer some of the most important questions about China's economy. We address the impact of falling oil prices and risks for deflation. We also consider the prospects of certain moves cuts policy interest rates and banks required reserves ratios have led to a Chinese domestic stock market booming, and the conclusion that those investors are likely to be disappointed.
The second part of this series will explore the reasons why the Communist Party is comfortable with slower growth, and how slow pace might be tolerable. This segment also answer questions about the health of what has been the best story of world consumption, and the prospects of new economic reforms.
The latest installment will answer the question, China's property market is heading for a crash? He will discuss what we think are the biggest risks of long-term growth and stability: the absence of the rule of law and institutions of trust.
Q: Are Falling oil prices have an impact on China?
No, because coal is still king in China, representing two-thirds of the country's energy. In fact, although China is the largest net importer of oil in the world, net oil imports amount to less than 3% of GDP in China.
Oil accounts for only 18% of primary energy consumption in the country, compared with 44% in Japan, 40% for Korea and 37% in oil prices lower United States has helped to reduce prices fuels, delivering a modest contribution to retail price index (CPI), but low food prices (due to unusually mild weather and unusually low levels of swine disease) have had a much bigger impact. Moreover, households represent a relatively small part of total oil consumption in China.
China, undoubtedly contributed to weakening global demand for oil last year, with oil consumption rising by about 1.4% year-on-year (yoy), compared with growth of 3.2% in 2013. However , most analysts agree that a large increase in the supply of oil was the main factor behind the lower prices.
Q: Do you need China to worry about deflation?
No, we do not believe. So do not jump on the bandwagon of deflation, and do not expect much easier monetary policy.
IPC is low in China, but not unusually low, and this is clearly not due to a fall in aggregate demand.
IPC Media Holder for the fourth quarter of last year was 1.5%, down significantly from an average of 2.9% for that time in 2013, but closer to the average of 2.1% in 2012 (when the nominal GDP growth for that year was 9.8%).
During 4Q14, core CPI (ex-food and energy) with an average of 1.3% compared to 1.8% during that period in 2013 and 1.5% for that time in 2012.
As always, food prices are great swing factors. For example, the price of pork, the main protein of China, fell by 3.9% yoy in 4Q14, while a year ago it was 3.9%. CPI / food averaged 2.6% during the last three months of 2014, compared to 5.5% during that period in 2013. But it was at a similar rate in 2012 (3%). And you may recall that food inflation soared to 11.8% in 2011, leading many to argue that inflation was out of control in China a few years ago.
Some suggest that the sharp declines in the producer price index of China (PPI) mean that China has a problem of deflation. But in my opinion, this is inaccurate, because it is clear that trends in PPI China are closely related to world prices of raw materials. In other words, the decline reflects lower energy PPI China and world prices of raw materials instead of deflation in China. I think many Chinese companies will benefit from lower prices of inputs.
Q: Will China cut interest rates?
China is likely to reduce interest rates, but this fails would signal a shift towards a dramatic easing of monetary policy. China's central bank understands that changes in food prices are the result of supply issues (recently, a low incidence of swine disease and moderate climate), no significant changes in demand, so the central bank (People's Bank of China, or central bank) has tried not to use monetary policy to intervene when food prices send CPI up or down. The People's Bank of China, however, usually adjust interest rates to keep pace with the CPI.
As a result, we might see one or two cuts of 25 basis points (0.25%) each, active and passive benchmark rates over the next couple of quarters.
In my opinion, it is important to understand the motivation of the Communist Party by these cuts: first, to keep in line with inflation rates, and secondly, to take advantage of lower CPI to reduce borrowing costs for businesses (including privately owned companies) and consumers.
It is likely, however, that the Party postponed a rate cut by the concern that this step would be misinterpreted by investors, adding fuel to the already dramatic rise in the domestic stock market. And the People's Bank of China has adopted new tools for managing liquidity and reduced funding costs, as the promised additional loans (PSL), the operations of short-term liquidity (SLO) standing credit line (SLF), and a medium-term loans (FML). Chances are that the central bank will use these tools as they have the advantage of attracting much less attention from the media and investors that changes in interest rates.
Q: Why China reduced the required reserve ratio (RRR)?
China recently reduced the RRR, but not to boost bank lending. Cut the RRR will have little practical impact and not alone for more loans. Changes in the RRR are linked primarily to changes in foreign exchange reserves, sterilization purposes.
Fake RRR a banking system
In a real banking system, regulators use the RRR to manage growth in lending and money supply. Banks only influence the money supply in an economy where pay and a lower RRR raises the share of deposits that can be provided.
However, China has no real banking system. All Chinese banks are controlled through the personnel system (even to the branch level) by the Communist Party. This allows the party to establish quotas for each bank loans, which regulates the level of loans above and beyond the RRR limitations. The system works as any banker who ignored his share soon be unemployed.
RRR cuts last, on their own, did not result in a material credit and liquidity loans that change is controlled by the quota. I have seen no sign that the party plans to raise the share of this year and credit growth continues to slow as planned. Since the party seems comfortable with the fact that GDP growth is likely to continue its gradual slowdown this year, there is no reason to expect the party to re-accelerate credit growth in 2015.
Already in 2012, when the central bank governor, Zhou Xiaochuan, was asked at a press conference if the latest RRR cut should be construed as government support to equity markets and property, said no. Zhou also said the RRR is primarily a tool sterilization currency "and in most cases, the RRR adjustments do not indicate the monetary policy is tighter or looser."
This is consistent with comments from the deputy governor Hu Xiaolian in 2011: "It should be noted that the increase in the RRR is mainly to offset the further increase in the liquidity of foreign exchange inflows, and does not have a great impact on the normal availability of money to financial institutions. The overall effect is neutral ".
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