Marc Faber right on interest rates as China raises and markets dive
Posted on 20 October 2010 with 9 comments from readers
Stock markets around the world were bathed in red yesterday as equities sold off in response to the first hike in interest rates by China in three years. The dollar rose, everything else tanked, including oil, gold and silver.
China increased interest rates for the first time since the end of 2007, just before the global financial crisis erupted in earnest. However, the move has far more to do with controlling rampant domestic inflation than trying to rebalance the global economy.
Stimulus impact
The Chinese response to the global financial crisis was a stimulus package equivalent to half the national GDP. It was an unprecedented and historic amount and went largely into bank lending. That first created asset price inflation, particularly in property, and now is creating rampant general price inflation.
China could handle asset price inflation that made people feel rich. It has a big problem with the inflation of food costs that make poor people poorer and unable to feed their families. The rich may not care very much but they do fear the potential for social unrest.
Hence the rather belated tightening of interest rates. The trouble is that this will prick the asset price bubble and risks ending the huge real estate and construction boom that hedge fund manager Jim Chanos sees as ‘Dubai x1000′ with a massive bust. People living in Dubai know what that means.
Marc Faber also recently warned on the dangers of a crash in China (see this video).
China crisis
If the Chinese economy is derailed then that will bring commodity prices down as well as ending the global stock market rally which has been running up on low volumes and low cost money from the Fed. Higher global interest rate levels also threaten to pop the bubble in US treasury bonds and cause higher borrowing costs for US consumers and business.
The dilemma for Beijing is that China has become such a linchpin of the global economy that its actions have consequences all over the world. China was stress testing for a 60 per cent fall in local property prices in August (see this article).
This does seem to be the start of the global interest rate rises ‘within three months’ forecast recently by Dr Marc Faber, the doyen of contrarian analysts. It is the complete reverse of the long period of low interest rates that asset markets have assumed in stretching valuations ever upwards.
The risk is that the proverbial brick on a piece of string has been tugged so hard that it now flies back in the face of investors. It is going to be interesting to see how the Fed responds to this challenge.
9 Comments posted by readers:
These “chess moves” by the FED and China are truly “epic” in nature.
As you’ve said, Peter, these actions are going to create unintended consequences which are going to snap back into our faces!
You called it “Chinese Roulette” . . . an appropriate term here!
No fall yet in China. I was there less then 10 days ago. A high end famous shopping center in Shenzhen,China where Gucci is located has a 500+ waiting list for businesses wanting to get into that shopping mall. That mall is pretty packed any time you go there with buyers. While I was in Shenzhen I saw a new phase release of 32 or so villas which went on sale and 18 sold within the first few hours. To curb and stop people from buying homes the government has now imposed new restrictions on buying to where one must have lived in that city for 1 year before they can buy,can not register home for kids under 18 and can not buy more then 1 home in that city or they will not be able to register it. These restrictions are to cool growth and the rate of consumption that takes place in China. If we see a correction it is due to government intervention to cool the market unlike the correction we saw in Dubai where buyers fled the country and in the US where sellers foreclosed on homes that they were unable to afford to make payments on and pay property taxes on.
If you want to see the current economic condition in china just head down to the wholesale clothes market,electronic market or any other wholesale market in Shenzhen or Guangzhou. Those places are packed with buyers from all over China,Asia and the every country you can think of. I would post pictures to back up what I saw but images can not be attached or uploaded here in the comments section.
There is actually a ton of money now flowing into China. If you figure you get 3% interest from the banks and 7-10% from currency appreciation over the next year that is a guaranteed 10% return on your money with the money in the bank to bank. This is one of many reasons money is now flowing really quickly into China. You have growth and you have good returns. Now that the Japanese Yen appreciated against the Dollar it is cheaper for the Japanese to invest in China as it costs them less to buy more in China. Many people in China are making more money on a daily basis from their businesses then one could robbing a bank.
One important factor to keep in mind is that in China the Chinese that buy homes in a particular area or neighborhood usually have a business there and make good money where in the US or Dubai if they lost their job they would lose their house only in Dubai if they could not reside permanently at an affordable price they aslo packed up and left. In China they have no place to pack up and head to. Home buyers must either pay cash or have someone sign for them who holds responsibility for that loan were the buyer unable to make the payments. That co-signer would need good credit and assets to be able to sign for that other person. In china no one signs for another person unless they are either close or know that this person is good on his or her payments. The same goes for Taipei,Taiwan which is why home prices here have only climbed for the last 20-25 years.
@ Andy:
Excellent commentary on what is going on inside China.
I’ve been married to a Chinese lady for over 30 years, and have learned a lot about China, its motives, its fears, its hopes, etc. Your detailed response shows what is going on inside China; hundreds of “new” millionaires are born every day there, and inflation is starting to take its grip on the Chinese economy.
Dangerous Moves by the FED:
The US FED’s moves are very closely related to the policy moves of the Chinese government. For example, China won’t revalue their currency, since they get to keep their hugh trade advantage, especially with developed nations. But the FED is playing a game of “chicken” with the entire world, regarding USD devaluation, devaluations from most other countries (i.e. who can devalue the most!), China policies, etc.
In essence, the FED is telling China that they have only two choices:
1. Either revalue your currency, or
2. Face the FED’s QE2, the net result of which (in addition to USD devaluation!) is flooding China with global currency inflows and driving inflation up significantly.
Obviously, there are many other “unintended consequences” of the FED’s actions (most of which are bad!), but I believe the FED is so desperate that they don’t really care. There is no way that the US government will be able to meet its massive obligations unless the USD is devalued by over 75% between 2010 to 2020.
For more info on China’s choices, go here:
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/8054066/Currency-wars-are-necessary-if-all-else-fails.html
Got physical gold?
I’ve lived in shenzhen for searly 10 years and, with my chinese wife we have been buying and selling property here much of that time. firstly, even if this was a measure intended to cool property prices there’s no danger of this interest rise having much of an effect on property prices because so many house buyers are cash buyers. the governement have been putting more and more rules in place to try and curb rising house prices but to little effect…first it was higher deposits, then no loans for third houses, now you can only own two…but thats only regulated in one city…so you go buy in guangzhou or shanghai…you register under family members names. the chinese have a visceral reaction to buying houses over any other asset once they have some money and every day more and more of them have more and more money so the property market has far more “market entrants” than you’d get in a typical mature western market. so that kees demand high. house prices here are insanely high and i’ve thought for the last couple of years of getting out (and taking a profit of roughly 4 times my investment) but every time i think this is it, its peaked…out comes another new devlopment at a new higher price (driven by the governement land price by the way so thats how serious they are about controlling house pricers…do that in a flash…sell the land cheaper but will they do that? not on your life) and so i stay on the merry-go-round. with shenzhen’s proximity to hong kong and hong kong prices now as high as 200,000 RMB a square metre and shenzhen’s better flats going for 30,000 to 40000 a square metre theres pleny room for growth. and as andy said you make on the strengthening RMB against the dollar when you take it out.
ill informed pundits can talk all they want about a “dubai *1000″ crash but it aint going to happen because the governement has the means and the money to ensure that “HMS China” sails right through any storms that may halt or sink weaker (politically and financially weaker) nations. I dont really think the FED is in any position to make demands of China…the governement here will do what they need to do and when they need to do it, gone are the days of China being pushed around by America. I wouldnt be anywhere else in the world.
Ed Note: You sound like a Dubai real estate investor just before the crash! Hardly anybody ever has the sense to get out and stay out when times are good…
@ shenzenren:
Very interesting commentary on investment opportunity in China, esp. in residential real estate. I agree that the US government and its corrupt FED (i.e. Federal Reserve Bank) have no right to coerce China in any way!
But the structural problems here in the US are now so massive that the US government (& the FED!!!) are looking for scapegoats; historically, this is always the way it’s been. The situation has been created by corrupt US government officials over the past 30 years, with significant help from the highly corrupt banking sector (which pays off the government officials handsomely every year (in the last general election of 2008, the banking cartel paid over $500 million to US politicians!!!).
The public knows the economic situation is bad, and getting worse. and so the US government is painting China as their scapegoat, to deflect the public’s anger. Eventually, something’s gotta give.
A Question About Taxes in China:
Can you tell me about the tax structure (i.e. income tax, capital gains tax, tax on interest and dividends, etc.) for foreigners living in China? My wife and I would like to leave the US, and living in China is one of the candidates.
with the editors words ringing in my ears i’ve firmly resolved to sell today…but i’ve decided to wait until tomorrow to see if i still feel the same way. i do think the markets are different because dubai was driven by an influx of foreign investors but here its chinese buyers so the government wont be hands off as they were in dubai … the government wants stable prices so housing becomes affordable for more people…the last thing it wants is a crash which will cause unrest among the property owning classes.
the tax system in china is still maturing, i can say that the system here is much less demanding than that in europe and with the cost of living very low one doesn’t need much to live comfortably.
Ed Note: sorry but do you think Dubai Government wanted a crash? They were the biggest loser in the crash but could not prevent the inevitable result of their policies.
@shenzen:
Let’s look at your situation from a different perspective; but first, let me state a few facts:
Fact # 1: The US FED will continue their massive QE2 money printing game, in spite of their rhetoric (note: the G20 meeting 2 days ago to reach a currency accord was an abysmal failure!).
Fact # 2: The net effect of QE2 will be to drive the USD and foreign currencies into China, thereby driving up their inflation.
Fact # 3: The government of China is gonna have to address this inflation problem in 2011.
Some Questions to Ask Yourself:
With increasing inflation in China, it’s likely that housing prices will continue to rise. But a key question to ask yourself is whether your “purchasing power” will be eroded quickly or not (say in 2011). If you decided to sell soon, what would you do with all that Chinese currency? And would that new investment pose less risk than the current risk in Chinese real estate?
An Update for Shenzen:
Here’s some more info on China inflation, from several different sources, compiled by Mish Shedlock:
http://globaleconomicanalysis.blogspot.com/2010/10/massive-inflation-in-china-us-inflation.html
I’ve been a consistent reader of Mish Shedlock’s blog for years; if you search his web site for past articles dating back to 2008, you’ll see that his commentaries are factual, and make sense.
Good luck!
It cant be Brick on end of string but end of rubber band/string, as string has no elasticity to propel such item back into face or other tender parts, which is going to happen by December.
Ed note: Thank you, you are quite right.