Fund file: why China’s cash pile is not enough | beyondbrics

Fund file: why China’s cash pile is not enough

Political leaders in the west have been keeping their eye on Beijing’s $3tn in foreign exchange reserves. If all else fails that amount of money could go a long way, they reason.
But Edward Chancellor, writing in Monday’s FTfm, says China’s forex reserves provide no shelter for anyone, least of all China.
Chancellor, a member of the asset allocation team at GMO, has been bearish on China for some time. He points to the fact that China has just produced its first quarterly balance of payments deficit since 1998. Although, at $12bn, it looks inconsequential compared to the massive reserves, Chancellor thinks if the balance of payments were to deteriorate rapidly China’s situation could take a drastic turn for the worse.
The real threat to China’s balance of payments, he writes, doesn’t come from shifts in China’s international competitiveness. Rather, it emanates from Beijing’s desire to maintain the country’s high rate of economic growth.
Changsha has just announced a $130bn investment programme to build more redundant airports, subways and bridges, he notes.
Why this bodes ill is best explained by Andy Lees of AML Macro, says Chancellor. Lees thinks the level of Chinese investment effectively creates a Ponzi scheme in its economy.
The argument goes like this: since 2007, investment has grown by nearly 6 per cent a year faster than China’s gross domestic product. If Bejing decides to further boost investment within a year, investment would exceed current savings – which stand at 52 per cent of GDP – and China’s current account would turn negative. If Beijing continued on the same path, Mr Lees reckons that within five years all of China’s forex reserves would have been expended.
If you think that this gives at least five years for Chinese policy makers to realise their folly and turn things around, think again. Foreign exchange reserves are also under threat of capital flight as wealthy Chinese find ways to take their money abroad.
Chancellor refers to the work of an academic who estimates that due to the concentration of wealth in China, the collective fortunes of the top 1 per cent of Chinese households is larger than the total foreign exchange reserves.
In addition, there is a direct connection between China’s forex reserves and liquidity in the credit system, says Chancellor. He points out that recent capital outflows have coincided with slowing deposit growth, which in turn has been forcing banks to fund themselves on the short-dated loans and interbank markets.
Massive foreign exchange reserves cannot shelter China forever, he says.
If Chancellor is right, western political leaders had better ask soon if they want some Chinese spending to go in their direction.
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Fund file: why China’s cash pile is not enough | beyondbrics