Make no mistake, the bevy of measures put forth by Chinese authorities in an effort to stop a three-week slide in the country’s equity markets collectively trump the QE programs implemented by most DM central banks.
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Even if one wanted to argue that the PBoC’s support for CSFC doesn’t amount to outright QE (much as some, Morgan Stanley for instance, claim the LTROs associated with the country’s local debt swap program aren’t effectively QE), “quantitative easing” will never be able to compete with “qualitative arresting [15]” in terms of government heavy-handedness in financial markets.
All jokes aside though, if the reprieve Chinese stocks have received from Beijing’s crack down on “rumor spreaders,” “hostile” foreign short sellers, and just plain old “sellers” fades starting on Monday (which we suspect it might), the Politburo may indeed be forced to abandon all pretenses that the PBoC isn’t directly monetizing stocks. In other words, China may have to abandon the “there’s no such thing as Chinese QE” line once and for all. With that in mind, consider the following from Credit Suisse, who has more on China’s “Draghi” moment.
First, Credit Suisse takes inventory of the extraordinary lengths China has gone to to stop the bleeding.
When a central bank says “whatever it takes”, we think the market should listen. The US Federal Reserve did so in 2008 and the European Central Bank did so in 2012. Is it the People’s Bank of China’s turn now?
The equity market panic has continued, with the Shanghai Composite Index diving by 32% over the past four weeks and share prices of smaller companies dropping even more. The authorities have launched two rounds of confidence-boosting measures over the past two weekends, neither meeting with much success.
The first round of confidence-boosting measures, anchored by cuts in interest rates and stamp duty, failed dramatically, as conventional policies had little impact in stopping the mechanical unwinding of leveraged positions. Over the past weekend, Beijing switched to administrative intervention by banning short selling and suspending IPO processes. State-controlled pension funds and sovereign funds are buying large caps, in an attempt to boost the index. More extraordinarily, the central bank injected liquidity in to the China Securities Finance Corporation Limited (CSFC) to buy stocks, without any pre-set limit in amount or timeline. Still, the measures did not seem enough to stop the market deleveraging and spiraling downward.
Next, the bank takes up an argument we've made quite a few times. Specifically, that the sell-off has implications far beyond the SHCOMP and Shenzhen. First, China is attempting to transition its economy towards a consumption and services-driven model. The sheer number of retail investors that have flooded into Chinese equities this year combined with the severity of the sell-off could very well serve to curtail consumer spending, thus hampering what is already an extremely difficult economic transistion.
Further, the eye-watering array of backdoor margin lending schemes (umbrellla trusts, structured funds, P2P, etc.) investors have employed in an effort to skirt official leverage restrictions have conspired to create an enormous house of cards which, when it collapses, could imperil the entire financial system.
We identify two major channels via which a sharp market correction could affect the real economy. The first channel is consumption. There are about 258mn stock trading accounts opened on the Shanghai and Shenzhen stock exchanges – 83% of the entire population of the US, with about one-third opened over the past nine months. We note a major shift of household savings from bank accounts to brokerage accounts. We estimate that 80% of China's urban households invest in stocks or equity funds, and equity exposure surged to at least 30% of their liquidity assets, from less than 10% at the beginning of 2014. The wealth effect is clear, but we suspect that the length of the market correction matters more than the depth. The Chinese people have kept hold of their jobs ensuring steady monthly cash flows, but generally they are feeling poorer, particularly in the face of adverse market conditions. Auto sales, which account for 9% of total retail sales, underwent a sharp decline, though not entirely caused by the wealth effect. The situation is too fluid for us to make any attempt to quantify the wealth effect, but we are inclined to believe that should the Shanghai Composite Index drop towards 3000 and stay low, we expect retail sales growth to be flat or decline slightly compared with 10.3% yoy as the average of the past five months, taking away the final growth engine, when investment and exports are all facing structural issues and have already decelerated.
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The second channel is finance. We estimate that China has about RMB3.7tn in margin financing through brokers' leverage, structured products and equity collateral financing (i.e., companies or big shareholders pledge stock rights to borrow more to invest in the equity market). The actual size of margin financing could be even bigger as we cannot fully estimate underground borrowing and over-the-counter borrowing. Further, some bank credit for real economy investment may have been diverted to the stock market.
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Finally, as we said repeatedly over the past several months while watching incredulous as new stock trading account creation hit escape velocity, the collapse of the market has serious implications for social unrest.
Besides the economic rationale behind making an outsized policy response, political considerations are equally important. China has one of the world's highest retail investor participation rates in the equity market. With the drastic fall in share prices recently, we think social stability is clearly at stake.
So what is the next step to head off "social instability"?
Outright, Kuroda-esque stock market monetization.
We are inclined to believe that Beijing will escalate policy responses until they start working. We have listed a few options that we believe Beijing may consider, but stress that unconventional measures probably would work better in current market conditions.
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The central bank [has already] injected liquidity to CSFC to buy stocks, without any pre-set limit in amount or timeline. To some extent, this is the Chinese version of QE. Although PBoC is not buying bonds and not yet expanding its balance sheet aggressively, it is taking non-conventional measures to boost asset prices in order to stop market panic, deleveraging and downward spiral.
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And because we doubt the situation could be summed up any better, we'll close with what we said on Thursday evening:
"By now it is clear to everyone that what is going on in China is nothing short of the complete collapse of a centrally-planned market into sheer chaos, a bubble which while punctuated by the occasional dead cat bounce, is now finished and it is only a matter of time before all the 'nouveau riche' farmers and grandparents see all their paper profits wiped out and hopefully go silently into that good night without starting mass riots or a revolution."
