For a majority of China watchers, while Beijing’s goalseeked GDP reports are largely dismissed as politburo propaganda, most of the attention falls on the PBOC and banking sector’s credit creation, and particularly, how this translates into broad money supply, or M2, growth: after all, in a nation which has roughly $35 trillion in bank assets, the biggest variable is how much cash is being injected into the system, and what happens with said cash.
Which is why a Reuters report overnight that China plans to target broad money supply growth of around 12 percent in 2017, down from 13 percent in 2016, has been promptly noted as the latest signal to contain debt risks while keeping growth on track. The M2 growth target was endorsed by leaders at the closed-door Central Economic Work Conference in December, according to sources with knowledge of the meeting outcome.
As a reminder, yesterday even the NY Fed released a note in which central bank researchers warned about the unsustainability of Chinese debt. Under the PBOC’s new “prudent and neutral” policy, the central bank has adopted a modest tightening bias in a bid to cool torrid credit expansion, though it is treading cautiously to avoid hurting the economy.
“It’s not necessary to maintain last year’s high money supply growth,” said a source who advises the government. “A money supply rise of 11 percent should be enough for supporting growth, but we probably need to have some extra space, considering risks in the process of deleveraging.”
In 2016 China’s money supply target was 13%, roughly double the country’s GDP , though it ultimately grew just 11.3% due to the effects of the central bank’s intervention to support the yuan currency, which effectively drained yuan liquidity from the economy. Last year’s M2 target reflected Beijing’s focus on meeting its economic growth targets, but top leaders have pledged this year to shift the emphasis to addressing financial risks and asset bubbles.
However, as we have shown in the past, M2 is just one aspect of liquidity injections: the PBOC injected more cash through its open market operations, medium-term lending facility (MLF) and standing lending facility (SLF), underpinning record lending of 12.65 trillion yuan ($1.84 trillion) in 2016.
Reuters has also reported that for 2017, China will lower its economic growth target to around 6.5% from last year’s 6.5-7 percent. The economy expanded 6.7 percent in 2016. Last week, state media cited a party statement issued after a meeting of the Politburo that China must maintain stable economic development and social harmony ahead of the 19th Communist Party Congress in the autumn. Key economic targets will be announced at the opening of the annual parliament meeting on March 5.
Whether China adopts the target or not, it is merely the latest indicator of tighter monetary policy this year. As we discussed at the start of the month, the central bank raised interest rates on its reverse repurchase agreements (repos) and the SLF on Feb. 3, following a rise in rates on the MLF in late January. “The central bank could raise such policy rates further. But we cannot see any possibility of raising benchmark interest rates in the near term,” said one of the sources.
Meanwhile, reversing the tightening trend, new yuan loans hit 2.03 trillion yuan in January, the second highest on record, due to a rush among lenders to maintain market share, while M2 rose an annual 11.3 percent in January. The central bank said in a working paper published on Feb. 15 that the debt deleveraging process should be managed prudently to help avoid a liquidity crisis and asset bubbles.
China’s debt-to-GDP ratio rose to 277 percent at the end of 2016 from 254 percent the previous year, with an increasing share of new credit being used to pay debt servicing costs, UBS analysts said in a recent note. Meanwhile, total bank assets to GDP is now well over 300%.
The biggest problem facing the massively indebted economy, however, remains one of a declining marginal impact of every incremental yuan of new debt.
“A decline in driving force from capital investment on economic growth is behind the rapid rise in leverage,” Ruan Jianhong, head of the Survey and Statistics Department at the central bank, said in remarks published on Friday.
In 2011, capital investment of 1 yuan could yield an increase of 0.32 yuan in GDP, but that has fallen to 0.16 yuan in 2015, Ruan told the official Financial News in an interview.
“We need to maintain appropriate economic growth. If growth slows sharply, various risks may be exposed,” said one of the sources. Of which the biggest being that China has now reached the Ponzi financing stage, and any incremental slowdown in debt creation will usher in the next and final step: the Minsky moment.
For more on this, please read “How Long Can China’s Debt Continue To Grow Before A Systemic Crisis Strikes?”