In the past few months we have extensively covered the end of China's credit impulse...
As the following chart from Goldman demonstrates, it has been China where policy uncertainty has stealthily exploded in the past three months according to policyuncertainty.com, while making virtually no new headlines.
Here is the visual confirmation of where the global reflation trade has "come" from:
The chart below shows the amount of credit created as a percentage of GDP during the five years prior to major downturns globally.
As a result: whereas back in Jan '16 the global credit impulse was positive to the tune of 3.8% of global GDP (of which China comprised 3.5% of global GDP) it has now fallen back to -0.1% of global GDP (China's contribution is -0.3% of global GDP).
Net / net, “inflation” remains the most critical driver of cross-asset pricing—so if ‘price is news’ and inflation is preparing to fade further (without any seeming ‘US fiscal policy’ booster shot coming near- to medium- term), be ready for negative impact on risk-assets.
* * *
But now, as Citi writes, some market commentators in recent weeks have highlighted that perhaps there is a major risk that consensus opinion is again overlooking the influence of China’s credit cycles, and thus perhaps overstating the potential contribution of future Chinese demand growth to the global outlook. And Citi's EM strategists think that the recent macro-prudential tightening in China could possibly contribute to more negative spillovers in the coming months.
As Citi notes, as China turns to tighter monetary conditions, this tends to be quite bearish for the hard data...
Across the board, on average, these charts suggest material downside risks to YoY growth in measures of domestic activity.
As Citi concludes, tighter monetary conditions in China, if sustained, may mean that the period of unexpectedly strong Chinese activity growth, which started in 2016 Q1, is coming to an end. Despite continuing to use higher money-market rates to discourage leverage, the PBoC have enough in their toolkit to ease liquidity conditions if needed. But investors should be warned that volatility may not be contained till the end of the year...
The lagged response of the world's equity markets to Chinese liquidity is hard for even the most ignorant asset-gatherer to ignore - or argue causally.
And so that is it - the one chart that ties suppressed global equity volatility to the credit cycle in China - this will not end well.
China’s contribution to the broader global recovery may be waning. Further legs to the global reflation theme may now rely even more so on the Trump administration’s ability to deliver on key campaign promises, and gioven this week's debacles, those seem less likely than ever.
And the bottom line is simple - and even if China folds on its monetary tightening path, the next phase of volatility is baked into the cake.