Don’t worry about the slide in the dollar, or yesterday’s fall in the stockmarket – pay attention to what’s happening in China where the country’s central bank has again driven short term interest rates to new highs as it seemingly tries to bring banks and others into line.
Coming on top of the surprisingly weak early estimate of manufacturing activity in China from HSBC and Markit, the intensifying credit crunch in China’s money markets has made foreign investors and analysts nervous that the economy might be damaged.
That survey showed a fall to a nine month low of 48.3 this month. The final figure is out July 1.
That concern hit Australia yesterday, adding to the silly negative impact from the Federal Reserve’s increasing confidence about the health of the US economy and the earlier than forecast end to the third round of its huge $85 billion a month easing.
The fall in the value of the Aussie dollar is good news, the weak data and reports of a credit crunch in China’a financial markets are worrying.
If anything, the HSBC report and then another day of rising short term interest rates in China were a bigger negative and helped push the losses on the local market well over the $30 billion mark and more than 100 points on the ASX 200.
The dollar also dipped lower towards 92c in trading in Australia, a new 32 month low. It then fell under that level in US trading and ended around 91.88 US. Gold slumped 7% to $US1,279 a ounce (down $US90 an ounce) and oil prices fell by 3% and copper lost 3%.
Wall Street dropped more than 350 points or over 2%. Other markets fell by well over 2%, while in European markets were off by around 3% or more as investors took fright at the Fed’s move and the news from China. The falls in New York accelerated in the last hour of trading to 6 am today amid talk of panicked selling.
On the Reserve Bank’s trade-weighted index (which measures the Australian dollar against the currencies of our major trading partners), the Aussie has weakened from 80.2 in mid-April to 72.1 today – a fall of around 12%.
Since early May, the dollar has fallen by 12.3% against the dollar, 9.6% against the pound, and 11.3% against the euro. It’s down more than 10% in the same period against the greenback and 12% since the highs at the start of the year.
The Australian share market fell more than 2%. The ASX 200 fell 103 points or 2.1% to 4758.4, while the All Ords lost 97.9 points or 2% to 4743.9.Resource stocks took a pounding, which was to be expected. Another fall is tipped for today after the weakness on Wall Street.
2Y AUDUSD Vs All Ords
After hitting a high of 8% on Wednesday, the key Chinese money market rates jumped to 12.37% yesterday for the seven day rate, while the overnight repurchase rate soared a massive 580 points to 13.85%.
Reuters and the Financial Times say the People’s Bank of China (PBOC) told the market that it would not conduct repo business in its regular open market operations on Thursday, frustrating widespread expectations that it would inject cash to ease an acute market squeeze over the last two weeks.
The move by the central bank has official blessing with The State Council, China’s cabinet, reportedly repeating its oft spoken commitment to prudent monetary policy and moderate credit growth risks at a meeting on Wednesday afternoon.
Traders say the big fear is that by not moving to add liquidity to the markets, the central bank could risk worsening the slowdown now underway in the Chinese economy.
The central bank appears to be trying to force banks and other financial institutions, such as funds, brokerages and asset managers, to cut their borrowings, haul back on lending and start deleveraging.
It seems that the tough approach from the central bank suits the recent Chinese government policy of clamping down on non-essential businesses by financial institutions, such as shadow banking, wealth management, trust operations and even arbitrage on investments such as metals, gains and land.
The money market squeeze began early this month but intensified this week, forcing financial groups and other companies to start reducing their borrowings, according to media reports from China.
The flash HSBC Purchasing Managers Index fell to 48.3 in June from May’s final reading of 49.2, well under the 50 point reading that divides expansion (above) from contraction( under).
"Manufacturing sectors are weighed down by deteriorating external demand, moderating domestic demand and rising destocking pressures," Qu Hongbin, chief China economist at HSBC said in a statement.
"Beijing prefers to use reforms rather than stimulus to sustain growth. While reforms can boost long-term growth prospects, they will have a limited impact in the short term. As such we expect slightly weaker growth in 2Q."
A sub-index measuring overall new orders dropped to 47.1 in June, the lowest reading in 10 months, suggesting demand is weakening both at home and abroad. Export orders also fell in another worrying sign.
For Australia, the continued health of the financial system of our biggest trading partner and major buyer of our biggest export, iron ore, is of greatest importance. Any misstep by the Chinese authorities which causes a credit crunch will impact us in Australia and the already slowing pace of activity and growth in the Chinese economy.
The central bank has refused to provide liquidity to the country’s financial markets, in what is seen as an attempt to slow the pace of credit expansion and house price rises. It’s a high risk strategy for China and its a high risk strategy for Australia.
And finally, keep an eye on Europe. The IMF has reportedly threatened to suspend aid to Greece because of a group of European banks are refusing to rollover loans to the country. The eurozone might have to fill the gap, which will trigger another argument with Germany.
