China Signals End To Tightening As Debt Crisis Weakens Europe

U.S.-China talks ended in Beijing Tuesday with no breakthroughs on such divisive issues as currency and North Korea. But behind the scenes, Beijing appears to be refocusing its domestic economic policies once again.

In the last two years, Chinese officials have toggled back and forth between encouraging growth and discouraging speculative excess. Now, with Europe reeling, they seem ready to drop recent efforts to dampen real estate speculation and focus on keeping their growth engines humming. The shift carries huge implications for Chinese equities, commodities and the global economy.

Hopes that China would revert to promoting growth helped trigger strong gains in copper, zinc and nickel on Monday. The Shanghai Composite climbed 3.5%, its best gain in nearly six months, though it retreated 1.9% Tuesday amid the latest global market slide.

All this followed Friday remarks by Commerce Minister Chen Deming signaling that China is most concerned with a potential global slowdown. “There are still a lot of uncertainties in the world economy. Therefore we believe it is too early for us to talk about an exit strategy from our stimulus package,” he told reporters in Brussels, according to China Daily.

Robert Lawrence Kuhn, an adviser to the Chinese government who also represents several U.S. multinationals in China, thinks Beijing has recently reordered priorities. With Europe in crisis and the U.S. government stimulus soon to wane, Chinese officials now fret more over loss of economic momentum than over nascent housing bubbles.

“China will skew towards being a little looser with financial policy in order to mitigate the risk of slowdown. They’ll skew to protect against a slowdown and unemployment,” said Kuhn.

If so, this would represent China’s third abrupt course shift in the last two years. An about-face would also highlight the difficulties for a managed economy. Equity and commodity markets are hostage to every actual and perceived policy nuance.

Concerns over Chinese moves to slow domestic growth, along with Europe’s troubles and a stronger dollar, have slammed commodities. Oil has plunged 21% from the May 3 intraday peak. Hopes for a pro-growth shift in China lifted copper Monday, but it tested the key $3 a pound level on Tuesday. Other metals and agricultural futures also sold off on Tuesday and in recent weeks.

Blame Asia, China?

“I think concern over growth in Asia is the underlying fundamental that cut the legs out of the commodities rebound,” said John Mothersole, senior economist with IHS Global Insight. That’s because Asia, he added “has been the disproportionate source of commodities growth.”

Some analysts argue that technical factors also have helped drive the sell-off. “China typically buys most of its raw materials in the first three to four months of the calendar year,” noted UBS analysts in a May 17 report. Heavy Chinese imports of copper, zinc and nickel are “now sufficiently large to influence global prices and equities,” they wrote.

But with buying subsiding and only a modest summer pickup expected, commodities sold off. Resource investors should “await stability in the EU’s financial markets and some easing in China’s monetary policy,” the UBS analysts wrote.

China’s recent moves to cool real estate markets came in response to the strong impact of its massive stimulus program unveiled in November 2008. Housing was a major beneficiary of the 4 trillion yuan program (roughly $570 billion). Interest rates were cut five times in late 2008, notes Todd Lee, managing director for the Greater China Division at IHS Global Insight. Several housing-related taxes were slashed.

Too Hot To Handle

It worked — perhaps better than China’s leaders had hoped. Loose money policies soon triggered reckless speculation, especially in real estate — just as they did in the U.S. In January and February 2010, property sales grew by 40%, said Lee.

China’s National Bureau of Statistics found that in February, 18 of 70 larger cities had seen real estate prices swell by 10% or more in the last year. Some cities showed price gains of 50%.

With real estate and infrastructure leading the way, Chinese GDP soared 11.9% in Q1 vs. a year earlier

So over the past several months, the government lifted reserve requirements on banks, raised money-market rates, tightened terms on mortgages and ordered state-run banks to slash lending.

The Shanghai Composite has fallen 24.6% from its late July peak.

China has been the world’s main growth engine in recent years. If its pace merely slackens, especially amid renewed global market jitters, the impact could be huge.

China now seems to be backing away from further real estate taxes. The government won’t start taxing holdings of two or more residential apartments for at least three years, said Huang Hanquan, a senior official at a state-run think tank, in the China Times on Sunday.

A revaluation of the yuan also is off the table for now. However, the dollar peg means China’s currency has risen sharply vs. the euro.

If China abandons market-cooling efforts now, it will risk trouble down the road, reasons Kuhn. “You’re making the whole economy increasingly fragile,” he said. “They can maintain the growth rate but make the future more and more fragile.”

Courtesy of Investor’s Business Daily.

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