May 6, 2022
In this episode of the Fed Watch podcast, CK and I discuss the evolving economic situation in China and Japan, China’s lockdowns and real estate developments, and Japan’s monetary outlook. It’s been a while since we’ve discussed this part of the world, so we endeavor to give a broad overview. I recommend checking out the links below for more information as well.
Of course, we also cover upcoming events for the Fed with their rate decision coming on May 4th, concerns over CPI and GDP in the US, and talk about how bitcoin fits into this revolutionary era.
Fed Watch is a podcast for people interested in central bank current events and how Bitcoin will integrate or replace aspects of the aging financial system. To understand how bitcoin will become global money, we must first understand what’s happening now.
The first few minutes of the podcast we cover economic matters occurring in the US. The Federal Reserve is coming out with their rate decision on May 4th and it is expected to be 50 bps. We do not expect any surprises in this regard at the time of writing, but we’ll find out very shortly. The consensus view according to CME’s FedWatch tool is 99% that we will see a 50 bps hike, to a range of 75-100 bps on the Fed Funds rate.
CPI for April is also due out on the 11th, which is more likely to be a surprise than the Fed Funds decision. We think the CPI could unexpectedly drop following the weak Q1 GDP numbers from last week, showing a -1.4% GDP growth.
China’s economic troubles started long before the recent Shanghai lockdowns, but the regressive pandemic policy will only serve to exacerbate the problems. After a brief 2 days of zero and hope that the end of lockdown was near, new omicron cases outside quarantine have once again been detected in the besieged city. These new cases have occurred in areas where lockdowns were less strict, so we could see a total reversal from a light at the end of the tunnel, to an increasing the strictness of the lockdowns.
Economic numbers out of Shanghai and China are horrible. Freight traffic in Shanghai is down 81% YoY for the last 3 weeks, and freight traffic in all of China is down 15% in the same period.
Many of the results of the lockdown have not yet hit consumers. Ships that left the area days before the lockdowns are only now completing their round trips. That means delays on orders, parts, and products will become much more noticeable.
Far from ending, lockdowns are spreading. 46 cities in China now have some form of restrictions, totalling 340 million people and nearly 80% of their economy. Beijing itself is bracing for Shanghai style lockdowns as 2 days of city-wide testing is causing residents to stock up on food and limit daily travel to areas closer to home. They don’t want to be caught unprepared if Beijing institutes rapid lockdowns like in Shanghai where some parts of the city only had a matter of hours to comply.
We cannot trust CCP economic numbers, but we have some private statistics that in the same ballpark. For example, Caixin’s Purchasing Managers Index (PMI) continued its contraction, down to 46 from 48 last month, which is similar to the official CCP report of 47. Anything under 50 is contraction. It is noteworthy that the decline in PMI started back in 2020, not just with the lockdowns.
When forecasting the Chinese economy, the saying, “you cannot taper a Ponzi scheme” is very appropriate. As the Chinese economy slows, it also becomes much more fragile.
If you think lockdowns, shipping, and growth stats in China are bad, wait until you see the real estate sector. Sales by the 100 largest real estate developers fell 52% measured in value YoY in the period right before the lockdowns began. Of course, with the lockdowns very little real estate is being bought and sold, but after this period of depression and collapse in morale, it is unlikely that the real estate market will return anywhere near previous levels.
Absolutely devastating to an economy where 70% of household wealth is tied to real estate.
It gets worse. Mortgage applications and bank loans are down over 50% in the same period and in a survey of bank depositors, 54% said they plan to spend less in the future, compared to 20% who said they plan to spend more. That is horrific for an economy that is based on a gigantic credit bubble and stuck in the middle income trap.
It’s gotten to the point that the CCP is stealthy in easing the 3 Red Lines policy that was intended to pop the over-leveraged real estate market in the first place. They have recently told local authorities that they have more discretion in applying the Red Lines per their unique local conditions.
China’s main strategy for stimulus is to increase infrastructure spending. However, they are already over-built as it is. With each new crisis, infrastructure stimulus has diminishing marginal returns, and could turn negative.
Bottom line for China is they are in a world of hurt. Their economy was crashing prior to the lockdowns, and the lockdowns are only spreading and becoming more strict. There is no opportunity to grow their economy in an attempt to stay solvent. They will likely be able to structure defaults (play games and kick the can) but it will, without a doubt, affect all future growth for China going forward. We have reached the end of China as the growth engine of the world economy, and should look for ways to mitigate the fall out.
Many people are talking about the rise in the exchange rate of the JPY. In the last 2 months, it has dropped from 114 to the dollar, to 130. A total of 14%.
The weakness is not isolated to the dollar, which has been strengthening against all other currencies lately, but also the Euro and the Yuan. Indeed, the Japanese monetary situation seems to be closely related to China’s, perhaps because of disproportionate exposure to the struggling giant.
A better chart to show just how bad the Yen has collapsed is the “real exchange rate” that takes into account inflation numbers. It recently broke down to 50 year lows. The lowest since 1971.
There is also some excitement in the Japanese bond market. It has traditionally been extremely boring, until recently the Japanese 10-year government bond broke through the 0.25% ceiling, placed there by the fabled yield curve control (YCC).
I do not think they have the actual monetary tools to keep it locked below that ceiling. In other words, YCC doesn’t work. This is important because so many macro experts jump straight to the Fed doing yield curve control. If they are wrong, and tools of the modern central bank cannot cap rates, confidence in central banks could be shaken. If Japan’s recent fight means anything, it looks as though YCC doesn’t work as promised.
I’m including a video of two Japan experts, Tohru Sasaki, Managing Director and Head of Japan Markets Research with JPMorgan Chase Bank,Tokyo and JPMorgan Securities Japan, and Jesper Koll, Expert Director at Japan-based Monex Group. They do an excellent job discussing the current situation for Japan, the dangers and opportunities it faces.
That does it for this week. Thanks to the watchers and listeners. If you enjoy this content please SUBSCRIBE, and REVIEW on iTunes, and SHARE!