HONG KONG (MarketWatch) — The idea of an all-powerful Federal Reserve, as custodian of the world’s reserve currency creating new money that cascades to all corners of the globe, is a popular one.
Last week, confirmation of a fresh round of quantitative easing by Fed chairman Ben Bernanke, lifted equity markets all the way to Asia.
But given the shift eastwards in the growth dynamics of the world economy, perhaps it’s the actions of the People’s Bank of China (PBOC) we should be more focused on.
After all, in the aftermath of the Lehman financial crisis, it was China — not the U.S. — that deployed a mega stimulus that helped lift not just its own economy, but everything from commodities and luxury goods to properties from Hong Kong to Vancouver.
Australia reacts to protests in China over islands
Australian leaders weigh in on the conflict between China and Japan over the disputed Islands in the Pacific. Courtesy of AP.
Perhaps unsurprisingly, it has also been China that created the majority of new money globally in the past five years supported by its bulging trade surpluses.
Now, however, some analysts are warning China’s money tap is running dry and this could trigger the next major deflationary shock.
According to CLSA strategist Russell Napier, speaking in Hong Kong last week, since 2007 China has accounted for 40%-45% of broad money growth across the world’s 16 largest economies. Its broad money growth now stands at $14.49 trillion, having jumped from $5.47 trillion in 2007.
In the U.S. by contrast, despite all Ben Bernanke’s various rounds of quantitative easing, in the same period, M3 accounted for just 10.4% of the total growth.
China’s prodigious money supply growth has been the counterpart to its bulging trade surplus. In fact, China has been consistently running both a capital and current account surplus, where, in order to keep it currency value suppressed, it accumulated its $3 trillion plus foreign reserve mountain. This led to vast quantities of new money being created as the central bank printed yuan USDCNY, -0.0016% as it exchanged foreign currency.
The change is now China’s surpluses no longer look as if they can be taken for granted, nor indeed the expectation of continued strength in the yuan.
Societe General’s Albert Edwards, in a strategy report last week, warned increasing economic and political uncertainty is leading to capital flight from China.
Further, the country’s first balance of payments deficit since 1998 in the second quarter this year was a “game changer” for the global economy, he said.
If China’s period of surpluses is over, it means the PBOC is no longer going to be creating yuan like before. In fact, the reverse will be true if the yuan weakens, where the central bank will effectively have to buy its own currency by selling foreign reserves to maintain its peg.
In the second quarter, China had a $70 billion capital deficit and $12 billion balance of payment deficit. Although the absolute numbers might be small, this marks a massive shift down through the gears for the monetary printing press, said Edwards.
The question now is whether money exiting China through its porous capital controls is the beginning of a sustained trend?