Commentary on Political Economy

Saturday 25 September 2021



I was in two minds whether to wake up on Thursday morning to see the 4am SYD time FOMC decision and the Jerome Powell press conference.

I’m glad I did.

I always think it is important to watch significant speeches, or announcements, rather than wait to see the numerous interpretations by the media and investment analysts.

Furthermore, I always find the market’s reaction fascinating and informative.

As I listened, to arguably the most influential/impactful person in the world today, it dawned on me that the all-important T-word was missing in action…I agree President Xi Jinping comes in a very close second.

I waited and waited for that word, but it never came.

I then scoured the official transcript of the press conference and it wasn’t there.

I turned to the dog, which is actually not my dog, and said, “he didn’t say transitory!”

He looked at me briefly and promptly closed his eyes again and went back to sleep.

“That was seriously hawkish.” I said, trying, once again, to get a reaction.

Anyway, as you all know the U.S central bank is set to announce, at its November meeting, the so-called ‘tapering’ of its $120 billion a month QE programme.

Powell also said that the ‘tapering’ of QE will be completed by the middle of next year.

So there you have it, the most stimulatory monetary policy in U.S history is drawing to a close.

Also noteworthy were the economic projections, from the 22 September meeting, which accompanied the FOMC (Federal Open Market Committee) decision, which can be seen below.

I have highlighted in yellow the inflation projections, and please note the significant upward revision from June to September.

It is also interesting to see how these inflation projections compare with those made in December 2020, which are shown below.

As you can see the inflation projections have more than doubled, notwithstanding their 400 staff members with PhDs in economics.

And without sounding too silly, and hopefully you’ve already noted my more mature and serious tone today, they really are rather keen on the number 2.

Everything ends up near 2.

Both GDP and inflation.

How wonderfully elegant and convenient.

If in doubt just say the number two!!...please note the 2 exclamation marks.

We have much more to talk about, however, I hope you agree that we had to start with Powell’s press conference and the omission of the word that has been scattered like confetti throughout all his recent speeches.

Talking of which we need to talk about FedEx.

Their quarterly results this week revealed a $450 million increase in operating costs “due to a constrained labour market.”

As we all know company profit margins act like a shock absorber and I sense the market will be shocked when Q3 earnings are released as to the impact on profit margins as costs continue to rise.

I think you can see, from the chart above, when FedEx released their results this week.

Yes, of course, we need to talk about Evergrande, and don’t forget the ‘e,’ but, don’t pronounce it…I’m still not sure.

Before we do, I was interviewed this week on CNBC, and have copied the link below.

Let me be the first to admit that I was a bit late to the Evergrande party and only first mentioned it in these pages in early July.

Since then, however, I have had my head firmly stuck down the Evergrande rabbit hole.

When all is said and done, we are watching the demolition, albeit the controlled demolition, as I said last week, of the world’s most indebted property developer.

Furthermore, and as I said in my interview, we will see a ‘restructuring’ with Chinese characteristics.

Those characteristics being that the Chinese government will do its utmost to protect, and prioritize, the people who have bought properties (yet to be completed) and wealth management products from Evergrande.

Foreign creditors and shareholders, however, will be at the bottom of the list and could be waiting a very long time to get a proportion of their money back.

To me, however, the much, much bigger issue is the potential for a spill over and contagion to the broader Chinese and global economy.

Can China manage an orderly restructuring and once again pull a rabbit out of the hat?

For a long time now many analysts have questioned the sustainability of the Chinese property model and some have called it a giant house of cards.

In this vital regard is Evergrande the butterfly of chaos theory fame that flaps its wings and sets off a hurricane across the world?

Perhaps an elephant, as it is certainly no butterfly?

Are investors just a bit too complacent that contagion can be contained by the mighty and all-powerful Chinese government?

If anyone has the ability and financial capacity to limit any economic or financial contagion then surely it is the Chinese government?

This time, however, appears to be a bit different.

The Chinese government, or should we say Xi Jinping, cannot be seen to be rescuing ‘The unacceptable face of leverage and speculation,’ to borrow and mangle a phrase from former British Prime Minister, Edward Heath.

The rescue of a company like Evergrande could hardly be seen as consistent with Xi’s new vision of ‘common prosperity.’

So, let’s agree Evergrande is toast! (An appropriate and more polite technical term for whatever you were thinking.)

And let us also agree that property bubbles are the most dangerous of all bubbles and once they burst they create complete and utter chaos.

Think Japan 1990 and America 2006 and many others: Ireland, Spain et al.

Remember also that the world’s brightest and best economists and fund managers have a woeful track record of anticipating them.

Even worse, once the bubble has actually burst, they then try and tell everyone, particularly their investors, that it is all a storm in a tea cup.

Which is why I am paying particular attention at the moment to what the world’s leading financial institutions are saying.

The general consensus is that it is manageable and that worries me very much.

Remember also that the legitimacy and credibility of the Communist Party of China (CPC) is dependent on its ability to sustain economic stability and social harmony.

If we see a crash in the Chinese property market then the CPC is in serious trouble.

With this in mind the following chart from Bank Credit Analyst is, how does one say it, somewhat troubling…to put it politely.

That is a chart of misery and infamy!

Please note the red-dotted line for Japan and we know what happened there.

Thailand is also interesting in the build up to the Asian Crisis of 1998.

What do you think of that chart?

For me that chart deserves a place on the great wall of scary charts.

I’m afraid that I see some very dark clouds on China’s economic horizon.

At a minimum the Chinese economy is set to experience a significant slowdown, and it could plausibly be much worse.

According to a 2019 study by China’s central bank housing makes up about 74% of household wealth in China and hence a significant decline in property prices would have very far-reaching consequences.

“When the facts change, I change my mind. What do you do?”

This, as you know is one of my favourite quotes from John Maynard Keynes.

The facts are changing in China, and they are changing rapidly.

In this regard I urge you to read Lingling Wei’s article in The Wall Street Journal, published on 20 September: Xi Jinping Aims to Rein In Chinese Capitalism, Hew to Mao’s Socialist Vision

The following is a brief extract from the article.

“Underpinning Mr. Xi’s actions is an ideological preference rooted in Mao’s development theories, which

call state capitalism a ​ temporary phase that can help China’s economy catch up to the West before being replaced by socialism.

An ardent follower of Mao, Mr. Xi has preached to party members that the hybrid model has passed its use-by date.

A 2018 article in the party’s main theoretical journal, Qiushi, or Seeking Truth, laid bare his belief:

“China’s practise shows that once the socialist transformation is completed, the basic socialist system

with public ownership as the main body is established…(and) state capitalism, as a transitional economic form,

will complete its historical mission and withdraw from the historical stage.”

I’ll leave you to think about that.

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