Asian equity markets were up and away early on Monday morning. It is a bit hard to fathom for dimwits like me, really. On Friday night, the New York region manufacturing diffusion index was in negative territory. The University of Michigan consumer confidence index was so weak that analysts and economists had to turn the pages of history far back to locate the last time that the consumer confidence was this low. They finally found it in the recessions in the early 1990s and the early 1980s. Depite feeling so low, consumers were alert enough to notice that inflation was persistent in their lives, if not in the official data. Their short-term inflation expectation went up to 3.7% from 3.4%. Low consumer confidence sits oddly with growth in retail sales reported for January in the US. It was supposedly driven by auto sales when auto companies had reported a drop in unit sales.
US equities too held up on Friday. Does it mean all bad news in the US economy is already in the price? With the current price-earnings multiple for S&P 500 at 18.5 times, with price-to-book at 2.5 times and with price-to-sales at 1.4 times, it requires a good deal of imagination and creativity to make that case. The price of crude oil is holding up rather well and stubbornly at above $95 per barrel. Crude oil futures contracts ominously show no drop below $90 per barrel for the next five years. Separately, economists are busy downgrading growth forecasts for Asian economies, while strategists warn of a big downward revision to earnings growth in the region.
On Friday, China announced its trade balance for the month of January. At more than $19 billion, the trade surplus was lower than the previous month’s $22.7 billion, but higher than $17.0 billion expected by consensus. As far as Asia (ex-Japan) is concerned, China’s trade deficit continues to improve. Its 12-month trade deficit stood at $20 billion at end-2007, smaller than $45 billion at the end of 2006 and $58.7 billion at the end of 2005. Once again, it underscores the well known but least acknowledged fact that China is not a substitute for the US in supporting Asian export growth. If US growth slows down, Asia (ex-Japan) will inevitably suffer lower export and economic growth and corporate profits. That is why the resilience of the stock markets in Asia this Monday morning is baffling, to say the least.
The recent World Bank China economic quarterly concedes that, while growth in the fourth quarter was supported more by domestic consumption than by exports, it does not believe that the much-trumpeted rebalancing of growth has gotten off the ground. In recording the prospect for 2008, the bank notes: “…the fundamental drivers of investment in industry have not yet been much affected.”
One of the fundamental drivers of investment in industry is the real lending rate. Despite the interest rate increases effected by the People’s Bank of China in 2007, the real lending rate—at less than 1%—remains excessively low for an economy growing at around 10% every year. Even for horizons above 12 months, the lending rate is not much higher, indicating that in real terms, the cost of funds remains exceedingly cheap. This results in China continuing to corner raw materials to support its voracious consumption,?starving the rest of the?world or forcing them to pay higher prices.
China announced four new deals in the resources sector on 4 February, two days after it acquired a blocking stake in London-listed Rio Tinto through the Aluminum Corp. of China (Chinalco). The website of Chinalco states “Aluminum Corporation of China is an investment management institution and holding company authorized by the state. It is one of the key state enterprises managed by the Central Government directly”. One of the deals, with Anglo-American, is a far-reaching strategic partnership to “develop projects in China, Africa and elsewhere”. The Times, London, (5 February) writes that already China is the world’s biggest consumer of every resource except oil.
Thus, it becomes increasingly clear that, notwithstanding their professed commitment to rebalancing growth, China is unable to wean itself off a policy configuration that actually helps to accentuate imbalances within China and hence in the rest of the world, too. China’s “partner-in-crime” is the US Federal Reserve, which, at the first sign of a retrenchment in consumer spending in America, panics and attempts to push them back towards continued consumption. This despite the acknowledgement that low savings and excess consumption in the US are unsustainable in the long-term and increase American dependence on foreign funding.
China and America thus continue to aggravate global imbalances and the rest of the world would be reaping the consequences along with them in the coming years.
V. Anantha Nageswaran is head, investment research, Bank Julius Baer and Co. Ltd in Singapore.These are his personal views and do not represent those of his employer. Your comments are welcome at firstname.lastname@example.org