Don’t look now, but yields on benchmark Chinese government bonds are below 2%. Or were below 2%, however briefly.
That might sound like a meaningless threshold, and in some sense it is, but it punctuates an inexorable rally which has vexed officials and at one point prompted the PBoC to intervene with a plan to sell the Chinese long-end.
There’s no mystery here. To recycle some language from a July article — the last time I addressed China’s bond bubble directly — bonds are bid in a deflationary environment, and China’s struggling mightily to stave off deflation. So vexed is the Party that the subject itself — the “d word,” if you will — is taboo.
Now, the Party has Donald Trump to worry about again, and while the latest data suggests the factory sector may be stabilizing, and although there’s some tentative evidence that domestic consumption’s picking up, the world’s second-largest economy remains mired in a kind of quasi-recession attributable in no small part to a never-ending property downturn.
Month after month, the CPI and PPI data underscores the deflation point. In the last release, core price growth was a moribund 0.2%, while producer prices spent a 25th month in deflation.
The figure shows you the trend. Core CPI’s barely above the flat line, and bond yields are trekking ever lower.
Needless to say, traders are banking on more rate cuts and easing from the PBoC, which is duty-bound to shoulder the burden of reviving the economy in the face of a very reluctant fiscal impulse.
On that front, the central bank’s eased and eased, mostly to no avail. Markets expect more string-pushing in the not-so-distant future, likely via another RRR cut, but probably via the repo and lending rate(s) too. As Bloomberg noted, one-year swaps were 1.53% on Monday, the lowest since the early stages of the pandemic in mid-2020.
The paradox (one paradox) is that the looser monetary policy is, the more liquidity’s available to traders for leveraged bets on Chinese bonds. That’s surely a contributor to the rally, and it makes for a rather ridiculous juxtaposition with the PBoC’s periodic interventions to put a floor under yields (lest the country’s bonds should become a dangerous bubble).
The rate disparity with the US is glaring indeed, and that’s weighing on the yuan, which was the weakest since July on Monday.
Donald Trump’s run-it-hot economic policies in the US and tariff escalations will likely exacerbate that dynamic.
Do note: Trump doesn’t give out passes in cases where his policies lead to currency weakness at odds with his efforts to undermine China’s trade advantage.
That’s one, among many, insanity loops inherent in Trump’s economic nationalism.
