One direct beneficiary of Ben Bernanke’s intervention on behalf of the greenback on Tuesday - China.
Brad Setser notes the cracking pace of growth in China’s foreign assets, which officially jumped another $75bn during April alone. But he reckons this figure seriously underestimates the underlying rate of expansion because China is also stashing dollars in its local banks, with enhanced reserve requirements, and in its newly created sovereign wealth fund, CIC.
Add it all up and Setser reckons the underlying pace of Chinese foreign asset growth jumped to around $225bn a quarter in Q1.
As this chart from Goldman Sachs shows, the fact that so much of China’s foreign assets are held in dollars means it has been on a steep losing streak over the past year.
Reinforcing Setser’s theme, Goldman’s Hong Liang says that while official foreign exchange reserves are now put at $1,757bn - implying growth to $2,000bn by the end of the year - the creative ways adopted by the Chinese central bank to put more FX assets onto commercial banks’ balance sheets means the total FX position had already reached $2,100bn in April.
All of which threatens a serious blowback - most obviously in the form of domestic inflation.
Setser adds:
No wonder outside observers — and I would hope, Chinese policy makers — are scared.
There isn’t much evidence though that Chinese policy makers are prepared to contemplate the kind of policy actions that might dramatically reduce incentives for hot money to come into China. Cutting policy interest rates to US levels, for example, would help. But it would also fan inflation. Allowing the RMB to appreciate to the point where investors no longer expected further appreciation would help reduce the incentive to move money into China. But that seems unacceptable to China’s export sector.
China is increasingly boxed in, with no good choices. And its policy response, at least to me, seems to consist of fiddling around the edges — tightening controls on inflows, loosening controls on outflows, seeing if a slower pace of RMB appreciation helps — and hoping underlying conditions change. That approach is precisely the approach that got China into its current predicament.
Related links:
Scary. But just how scary? - Brad Setzer
Hot Money Flows Accelerate into China’s Reserves - ChinaStakes.com
