China’s Wagging Tail Risk Tide

Entering the Lunar Year of the Dog Chinese and Hong Kong shares slumped on local and global fears after 2017 calm, despite top-level official assurances at the Davos World Economic Forum of financial risk management and rapid “high-quality” growth embracing anti-poverty and pollution priorities. President Xi, who had made a splash at the event the previous year with his call for open markets and free trade, left the publicity wave to his US counterpart this time,  although President Trump was hard pressed to explain the commingling of “America first” solar panel tariff imposition and global commercial cooperation. “Xi thought” was formally enshrined in the constitution in a more dramatic achievement, even as Development Commission planners warned of possible “black swans” accompanying predicted 6.5% plus expansion. The composite PMI index was near 55 at year-end, but private consumption and investment were up just over 5%, as state-driven fixed asset allocation continued to contribute 60% to annual growth. Industrial production and retail sales rose 6% and 9% respectively in December, as the average company liability/asset ratio stayed 55%. After a 3.5% jump against the dollar extending a strong run within the slim daily fluctuation band, the Yuan lost ground in early February after foreign reserves were reported above $3 trillion. According to the Washington-based Institute for International Finance capital outflows were only $60 billion, and the figure was further helped by other currency appreciation against the greenback. The foreign exchange regulator vowed to crack down harder on underground banks moving money abroad after conducting raids to gather “hundreds of billions of RMB.” Other popular channels include multiple-card cash withdrawals through Hong Kong; $200 billion in offshore dollar bond issuance last year; and an estimated $3 trillion in wealthy individual accounts in Singapore and elsewhere.

Total bond maturities will be $400 billion in 2018, as regulators push deleveraging and stricter disclosure to pare excess debt. Regional bank frauds were uncovered to stiff fines, and Fitch Ratings noted that balance sheet coverage of wealth management products will hit capital as thousands of system transactions were found questionable. With the unconventional borrowing route under pressure companies have turned to traditional IPOs, which doubled to 450 hauling in RMB 230 billion last year, as authorities continue to promote state enterprise debt-equity swaps to stave off restructuring and closure. Profits increased 15% and over one thousand “zombies” were closed according to government statistics. Almost $1 trillion in overseas assets could also be repatriated for support, although they now serve a dual function in aid of the Belt and Road program, where 90% of contractors in Asia and Europe were Chinese as calculated by think tank research. The first OBOR bond was placed domestically to finance cement plant equipment purchased at a 6.5% yield and was oversubscribed, as S&P Ratings forecast local government instrument defaults with the pile at RMB 16.5 trillion at year-end. Construction firms have sued municipalities for non-payment, as the real estate sector is due to soften with new buying and leverage curbs going into force. In Hong Kong, which the Heritage Foundation again ranked the freest economy in the world, private home prices have soared close to 500% the past fifteen years, as the monetary board must both defend the peg against capital exit and property overheating burns.

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