MacroScope

Just when you thought it was safe to get back in the water…

A worrying weekend for the euro zone.

Greece’s coalition government – the guarantor of the country’s bailout deal with its EU and IMF lenders – is down to a wafer-thin, three-seat majority in parliament after the Democratic Left walked out in protest at the shutdown of state broadcaster ERT.

Prime Minister Antonis Samaras insists his New Democracy can govern more effectively with just one partner – socialist PASOK – but the numbers look dicey, although it’s possible some independent lawmakers and even the Democratic Left could lend support on an ad hoc basis.

Samaras has ruled out early elections and says the bailout – without which default looms – will stay on track. If the government fell and elections were forced, the likely beneficiaries would include the anti-bailout leftist Syriza party which, if it got into government or formed part of one, really would upset the applecart.

Just as alarming was the failure of EU finance ministers – after talks that went through the night well into Saturday – to agree how the bill for future bank failures should be paid. There were problems with those countries outside the euro zone as to how they should fit into the mechanism. But the disagreement was chiefly between France and Germany, principally on how much leeway countries should have to impose losses on bondholders and/or large depositors.

As one would expect, Berlin wants minimal wiggle room is order to spare the currency bloc’s taxpayers in future, Paris significantly more. A fresh attempt will be made by the ministers on Wednesday in an attempt to clear it up before their leaders meet on Thursday.

Yield is king in China’s ‘dim sum’ offshore yuan bond markets

 

A return to China’s offshore yuan bond markets, or “dim sum” as they are colorfully known in Hong Kong, may be sweet for Gemdale, a mainland property developer. But not all fund managers are smiling. The company raised five-year money at 5.63% amounting to 2 billion yuan. Not bad, considering that last July, it raised a lesser sum for a shorter tenor while coughing up nearly double of what it paid this time around. Add the fact that it did so by keeping to the same weak bond covenant and Gemdale seems to have pulled off a stunner.

But Gemdale doesn’t seem to be the only one. In recent days, issuers with weak bond covenants have discovered a ready market for their debt and at much cheaper rates. In theory, bond covenants can be divided into two halves: affirmative and negative ones. The former promises to pay bond holders on time while the latter forbids it from exceeding certain financial ratios such as interest paid/EBITDA, debt to equity, etc. And of course, they are secured by the company’s assets or backed by bank guarantees or letters of credit

But when theory meets reality (read: offshore hunger for yield meets hungry onshore Chinese issuers), financial “creativity” is the outcome. So mainland companies set up complicated structures to ensure they are able to keep regulators and ratings agencies happy while getting access to cheap capital quickly without having to negotiate labyrinthine approvals processes.

Trade entrails

An exercise in divination using the entrails of last week’s U.S. international trade report shows signs of a move with larger implications than just the gaping deficit that caught analysts wrong-footed: the possibility of a persistent burden on the American economy caused by Japanese and German imports, like in the 80s.

The U.S. trade deficit widened 16 percent in November to $48.7 billion, the Commerce Department said on Friday, above the $41.3 billion expected. The negative surprise prompted economists to cut hastily their U.S. gross domestic product estimates for the last quarter to a negligible rate. The stock market took a hit.

The disappointment was limited, however, as analysts attributed the bulky import bill behind the deficit increase to a resumption of merchandise flows into the U.S. after Hurricane Sandy paralyzed port activity in the East Coast the previous month. Some economists still on yuletide mode are, apparently, missing the big picture.

China no longer tops list of global economic concerns

There are still plenty of macro factors to worry about around the world, but China seems to have dropped down the charts. Conversations with delegates at TradeTech Asia, the annual trading heads’ conference held in Singapore, revealed that the U.S. fiscal cliff, food inflation, geopolitical risks in the Middle-East and Europe all trumped China as the major risks out there for financial markets.

Last time this year China was public enemy #1 for investors. But according to the latest Bank of America Merrill Lynch Global fund managers’ survey confidence in the outlook for China’s economy has surged to a three-year high – a big turnaround from a year ago when the fear was that shrinking company profits, rising bad loans and weak global demand at a time of stubbornly high inflation would all add up to a “hard-landing” for the world’s second largest economy. The consensus opinion among economists now is that the worst is over and growth bottomed in the third quarter that ended in September.

Money has come back to the market too. Nine straight weeks of inflows have seen $3.2 billion pumped into China equity funds, according to EPFR, in the lead up to the 18th Party Congress where China’s new leadership was unveiled.  Hong Kong, still the main gateway for foreign investors into China, has seen optimism over China combined with the U.S. Fed’s third round of asset purchases lead to strong capital flows into the market. The territory’s monetary authority was forced to repeatedly intervene to defend the HK$’s peg against the US$ last month while the Chinese yuan is hitting fresh record highs.

The risk from China’s shadow banks

Many blame America’s shadow banking system, where dangers lurked away from the scrutiny of complacent regulators, for the massive financial crisis of 2008-2009. Richard Fisher, president of the Federal Reserve Bank of Dallas, said in a speech on Thursday that he is now worried about the risks to China from its own version of the shadow banks.

During the recent credit boom fueled by the 4-trillion-yuan fiscal stimulus, off-balance-sheet lending by banks and private loans by nonbanks exploded. This shadow-banking lending activity accounted for an estimated 20 percent of China’s total loans in 2011. With the cooling of the real estate market and with slower economic growth likely in the near term, a large share of these loans could turn bad. And because these loans took place outside the view of regulators, the effect of a sudden disruption in repayment is virtually impossible to predict.

Fisher was highlighting this concern to suggest that, while China’s efforts to reform its currency system are welcome, the authorities must be careful not to open the country up to volatile capital flows at a time when the world financial system is already very fragile:

Manifest currency? U.S. dollar’s global dominance not set in stone

Incumbency, it is often said, confers many advantages.

Sitting U.S. presidents certainly have reaped its benefits – in the past 80 years, only three have been unseated.

Most economists believe the same benefits apply to reserve currencies. Yes, the U.S. dollar may one day be supplanted as the leading international currency, the thinking goes, but that day is many decades away.

Then again, maybe not.

A new working paper from the National Bureau of Economic Research that looks more closely at the dollar’s own rise to the top in the 20th century suggests, among other things, that “the advantages of incumbency are not all they are cracked up to be.”

Is U.S. economic patriotism hurting?

Any Americans believing that their country is being bought up by the Chinese might want to pay heed to a new report from the Vale Columbia Center on Sustainable International Investment. It says that China is a minimal player in terms of foreign direct investment in the United States and that Washington should in fact be doing a lot  more to get it to gear up its buying.

To start with, look at the magic number.  In 2010, the last year for which numbers are available, only 0.25 percent of FDI into the Untied States came from China.  Switzerland, Britain,  Japan, France, Germany, Luxembourg, the Netherlands,  Canada were all far bigger. In the U.S. Department of Commerce’s report on the year, China, numbers were so small they were lumped into a category simply called  ”others”.

This is not enough, the Vale Columbia report says. Given China’s burgeoning economic role across the globe, America can benefit from a lot:

China bear Pettis says world coming around to his view

Few mainstream economists have been quite as downbeat on China as Peking University professor and noted China watcher Michael Pettis. Pettis has long held that the world’s No. 2 economy will grow at a maximum of 3.5 percent a year for the rest of the decade, well below a consensus call that appears to have settled into the 5-7 percent range. “And honestly, I think if I’m wrong, it will be to the downside rather than the upside,” he told Reuters.

Lately, though, Pettis says that many people inside China and in some of the countries whose fortunes are tightly tied to its economy are starting to come around to his point of view. At a recent lunch with visiting European Union officials, Pettis said the mood among the attending Chinese economists, academics, think-tankers and policy advisors was universally gloomy. “I’m used to being the most pessimistic guy in the room, but in this case, they were much worse than I.”

Pettis says that’s because the Chinese understand, far better than the average Western investor or economist, just how tough it’s going to be to rebalance from investment to consumption and shift wealth from the state to Chinese households.

Euro zone hopes for funds from the Fund

Focus for the euro zone is firmly on Washington with G20 policymakers gathering ahead of the IMF spring meeting. The Fund is seeking an extra $400 billion-plus in crisis-fighting funds which, tallied with the $500 billion euro zone rescue fund about to be established, adds up to a meaningful firewall for the markets to ponder before they consider pushing Spain and Italy to the edge.

But as many sage minds are saying – U.S. Treasury Secretary Timothy Geithner among them – a firewall does not solve the root problems of the euro zone debt crisis. As our very own Alan Wheatley puts it, “It is not obvious why a stronger firewall should encourage anyone to enter a burning house”. Nonetheless, Reuters polling yesterday ascribed only a 25% and 13% chance respectively to Spain and Italy needing an international bailout.

If the IMF falls short, given the jittery mood in financial markets, that could be cue for a further sell-off. The IMF has pledges of $320 billion so far. The Chinese and British have yet to show their hands and the BRICS led by Brazil are demanding more power at the Fund before handing over extra cash. German Finance Minister Wolfgang Schaeuble told us earlier in the week that conflating those two issues was not acceptable so there is potential for a rift. The U.S. and Canada have already said they will provide no more funding. Finance ministers and central bankers from the Group of 20 advanced and emerging economies had dinner on Thursday night, ahead of a longer session on Friday.

Foreign investors still buying American

Overseas investors have yet to sour towards U.S. assets despite high government debt levels, according the latest figures on capital flows.

Including short-dated assets such as bills, foreigners snapped up $107.7 billion in U.S. securities in February, following a downwardly revised $3.1 billion inflow for January. At the same time, the United States attracted a net long-term capital inflow of just $10.1 billion in February after drawing an upwardly revised $102.4 billion in the first month of 2012.

The data showed China boosted purchases of U.S. government debt for a second month in February, but also some waning of demand for longer-dated securities.