“The reopening trade is over,” Credit Agricole’s co-head of trading for AsiaPac said Wednesday.
He was referring, of course, to China, where sentiment soured further after another update on the world’s second-largest economy suggested the rebound, to the extent it was ever real in the first place, is kaput. Perhaps market participants (not to mention economists) should’ve taken a hint from the Party’s “cautious” growth target+ for 2023.
Back in March, after the outgoing Li Keqiang said Beijing will aim for GDP growth of around 5% this year, I wrote that however you chose to interpret the lowest target in history, it seemed clear that the Party “doesn’t intend to pursue anything like a ‘growth at all costs’ strategy, and that could pretty easily dent sentiment for Chinese assets.”
Fast forward two months and Chinese equities are coming off a “miserable May,” as Bloomberg put it, and the yuan is trading the weakest in six months. The Hang Seng China Enterprises Index, which approached bear market territory earlier this week, is now more than 20% below late-January levels.
The gauge of Hong Kong-listed Chinese shares is on track for a fourth consecutive weekly loss and a sixth in seven. Mainland shares are down a seventh week in eight, and just capped their worst month since October, when Xi’s de facto coronation at the Party congress upset some investors (as though there was something surprising about an autocrat carrying on as autocrats generally do).
“Sentiment towards Chinese asset[s] has deteriorated over recent weeks. Equities have underperformed relative to peers amid worsening economic activity and concerns about earnings as the profits outlook worsens,” TD Securities’ Mitul Kotecha said. “After a strong surge at the beginning of the year, equity inflows have flattened out and turned to net outflows.” Foreign investors were sellers of A-shares through the link for a second month.
The proximate cause of Wednesday’s consternation was obviously May’s PMIs, which were predictably poor. The official manufacturing gauge printed 48.8, the lowest since December, when the Party abandoned “COVID zero.” The market was looking for 49.5.
At 54.5, the non-manufacturing index (which, as a reminder, is services and construction), remained in expansion territory, but that’s not saying a lot. A contractionary print would’ve counted as an anomalous miss to consensus. 54.5 was the lowest reading of 2023.
The figures were greeted with the usual impatient calls for more stimulus — another RRR cut, an MLF cut at some indeterminate future data, “targeted” measures and so on. It’s the same hapless speculation month in and month out by people with no more visibility into the Standing Committee’s decision calculus than anyone else.
Maybe Xi and his inner circle will endeavor to make good on implicit and explicit promises to bolster the economy, maybe they won’t. Maybe they’re not even thinking about it today. All you can do is read the tea leaves, where that means peruse state media for vague references to what the Party might do according to unidentified “analysts.”
Allow me to offer the customary reminder: You may be worried about this week’s price action in some Golden Dragon-tracking ETF and markets may be worried about next month’s activity data, but the Party is more concerned about what the domestic and geopolitical landscape are going to look like in the 2030s, 2050s and 2100s.
You’ve made the point in plenty of places that China thinks in longer-range terms than Westerners. I have some specific background in that department, and I am often reminded of that these days.
Various Chinese philosophies and theologies–while different in a lot of ways (Buddhism, Taoism, Confucianism, etc.)–came together in the same common cultural grounding which included the concept of cycles and meta-cycles of history. They each adapted these ideas, and it remains a culturally powerful force to this day. For instance, most people are familiar with the Chinese zodiac, which goes by years rather than months. The 12 years of the Chinese zodiac was just about the shortest cycle in which people think. 60 years is considered a more natural full cycle–approximately one human lifetime–and 300 years was (is) a full historical cycle, roughly equivalent to one ruling dynasty.
When Mao borrowed the Soviet idea of the 5 year plan, he was no doubt quite happy with the fact that 5X12=60. That was not just happy coincidence, that was good feng shui, if you’ll pardon the metaphor abuse. The idea that Xi, anyone else in his orbit, or even anyone else you like to imagine hypothetically holding Xi’s job or making decisions for the CCP, would be making major decisions based on maximizing outcomes in the next month or quarter isn’t just misguided or ill informed. It’s nonsensical.
I find the notion that China has an inherent long-termist viewpoint very odd. At best, they tend to self-aggrandise and perhaps deeply believe that they’re planning for the next century, but the reality doesn’t suggest that. Certainly nothing before Deng looks like long-termism, but instead deeply short-term policy to respond to specific political crises. I’ll grant that Deng was something of a visionary, but mostly in the sense that he recognised a degree of chaos was necessary for progress. Now we’re with Xi in his ‘history will buy you’ era and what do we get? China was supposed to be years ahead in AI, but they still haven’t built a credible LLM. Their army was supposed to be developing wonder-weapons to counter the US, but Ukraine has revealed that NATO’s 90s surplus pile can counter these weapons. The economy is running into extremely well-known and well-signposted issues without a credible response other than banning K-Pop for making Chinese men effeminate.
The greatest trick the West ever pulled was convincing the Chinese that they are inherently cunning geniuses who are far ahead of us in planning. They largely believe their own hype and end up wasting time and energy on grandiose plans that go nowhere.
Given the evolving cold war between the United States and China and their disaffection for any democracy in Taiwan, the state of Chinese positive engagement, economic or otherwise, between our countries will fade dramatically further. It will only get worse from here.
Xi recognizes Putin’s flawed judgements (in Ukraine) today and the flawed approaches of the Soviet Union during the cold war of the 20th century. The fundamental difference in the evolving cold war is the economic might of China, readily enabled by western investment, which gave the CCP far greater potential power.
The “dour” economic outlook of China noted by The Real Heisenberg today will only be worsened by ongoing, fading western investment. Some time ago, while limiting the sophistication of fabrication plants on the Chinese mainland, TSMC began to slowly move its operations to Europe and the United States. Taiwan sees the meaning of China’s posturing today.
Despite Putin’s nuclear weapon capacity, Russia is a token threat to the west in comparison to China’s growing power. And the war in Ukraine only weakens Russia further. There’s an open question of whether Russia will hold together as a federation of states by the time history looks backward at the war and Putin.
The other open question in my mind is the extent to which the US will back its words with action if/when China invades and/or blockades Taiwan. The US is spending money to modernize and expand its presence in the western Pacific and accelerating shipbuilding capacity to gear up for the Taiwan invasion. We’re going to be talking about this topic for the next couple of years, at least.
There are multiple choices outside of China where the west can find capable manufacturing, though there are genuine questions of the speed and quality of manufacturing operations outside of China. But China will not stand as it is today. It will lose economic power over time, though it will most surely continue to flex its muscle internationally as it is able.
I put some time into digging through comments from former and current military people about the US capability to respond to a Chinese blockade of the island. The consensus, as it is, is that the US is woefully unprepared at this time. Contrary to what one might think, it is not a function of military aid to Ukraine draining our weapons stocks. That mostly has been a land war.
A conflict in the South China Sea would be a naval engagement. At first it would be fought with subsonic, supersonic and the new hypersonic missiles. The US inventory of these weapons is alarmingly short.
For example, I sat in on a seminar where some retired high-level US and EU naval officers actually tried to tally up the number of interceptor missiles the US would need to defend the planned forward bases the US was given permission to set up in the Philippines. Their calculations were that those bases would run out of stock in less than a week.
Now, these bases were just approved, not built. Other improvements to our forward troop and equipment deployments are similarly in the planning stage or just barely started. That includes the deployment of more aircraft to Guam, which will be necessary since the latest missiles render aircraft carriers sitting ducks which would need to be parked well away out of the range of Chinese land-based missiles. .
Worst of all, I’ve read that the lead time to produce enough of the missiles needed to deter China aggression is VERY long. Some can only be produced at two or three per month. The lead times on new naval vessels is even longer.
In my humble and inexpert opinion, this current weapons imbalance in China’s favor suggests that if they want to go down that path, they’d be inclined to do it before the US has enough time to complete an adequate build out of deterrence.
Then there’s that little issue of the shortage of chip fabs outside of Taiwan. That too will take years to adequately address.
Thanks for the reply, Derek. It’s always a pleasure to chat. I like your comments and appreciate your level of engagement. I’m online today because I took the day off so I’m available to chat.
It’s pretty cool that you sat in on a seminar with some retired US military that have the experience to know turnaround times on certain military products. The word I heard was that when Biden was elected, the new administration scrambled to take steps for building a stronger presence in the western Pacific. What gets me is that Trump, aside from expressing some dislike for Xi, really took no action in regard to the Chinese vis-à-vis Taiwan.
I agree with you about the bases. I’m not a military man and don’t have a military service history. I know the bases are yet to be constructed. But my understanding is there’s some urgency behind the current effort. And you’re correct. It’s certainly true that China’s got the power to do the invasion and/or blockade. And there’s a definite chance they’ll take action against Taiwan sooner rather than later.
But if Xi takes such action, any vigor in the Chinese economy would be lost – nothing but a fond memory. China would become substantially isolated, not unlike Russia is today. And their economy, which becomes less vigorous as we speak, will be impacted even more substantially. So China will have choices to make, as will western countries. But at the very least, the next couple of years will be a busy time in the western Pacific.
You are damn right. Lets hope we dodge this one.
I am not too worried about Taiwan.
First of all, even if China took Taiwan- they would have to actually occupy it ( would not go well for the Chinese, imho.) If Xi can learn one thing from Putin, it is that taking a geographic area occupied by people who hate you won’t go well in the long run and the costs involved will destroy the occupier.
Second, other than some coal mines, Taiwan is not a great source for natural resources- especially of the type that China is currently greedy for. Trying to take intellectual property absolutely will be stone walled by the Taiwanese- assuming much of anything is left in Taiwan by the time China actually takes the island. The outflow of intellectual property, money and manufacturing capabilities is already occurring in preparation for a potential Chinese aggression.
Third- this is a great opportunity for Japan, US , Canada and western Europe to absorb some of the best- and this opportunity is not and should not be squandered.
The “fruits” resulting from a Chinese invasion won’t go to China, hence, China won’t be too excited to implement that plan. Better for Xi to endlessly talk about taking Taiwan but not actually take any action.
Your view has a positive slant. China taking Taiwan would be a great opportunity for Japan, the US, Canada, and Europe to benefit by the gap created from interrupting TSMC operations in Taiwan. And TSMC may be able to carry on in its many existing locales. But the people of Taiwan, one of the most vigorous democracies in the world, would suffer greatly.
You all are lucky! I typed a long piece laying out how the lack of supplier networks, equipment and, most of all, mid-level engineering talent will leave the world very short of non-Taiwanese fab capacity for five years at the very least. But I hit something wrong on my phone and “poof”, it was gone and you were spared.
The context was that US chip designers and users have given China a strategic chokehold by outsourcing all of their top-level logic chip to the island. The PRC only needs to disrupt chip production on the island to draw concessions from the US. No invasion is necessary, though a naval blockade might well be.
Hopefully I am overly nervous, but the risk of accident is high: China’s economy is stuttering and in the US, as the 2024 Congressional and presidential elections draw closer, being labeled as “soft on China” is even worse than being called “soft on crime.” What could go wrong?
Sadly I am not the only worrier about this. Other worrywarts include Tim Cook and Warren Buffet.
On that happy note ….
Thanks to all for the well-informed and thoughtful entries in this conversation. It’s an interesting and dynamic topic, not without possible impacts and implications for our economic well-being. Though China-Taiwan probably won’t hit the fan for another year or two, it’s useful to consider the possibilities it can bring to our markets, which is why China is a subject on which I like to comment. In too many ways, with regard to the US economy, they have us by the “short-hairs.” I look forward to seeing that state of affairs change.
The dynamics in our markets are only beginning to turn away from the possibility of recession this year. I hope US markets will restore a normal level of chaos and we’ll be back on our feet by early next year. But ’24-’25 doesn’t look all that promising from a market perspective to me while this China-Taiwan thing awaits us during that timeframe.