With the ongoing trade war, China’s leaders have had to come to terms with the threat of becoming involved in a long-term struggle with the US over trade disputes and other issues.
A lack of dialogue could lead to more US tariffs, threatening China’s domestic economy and growth rate.
Now the People’s Bank of China (PBOC) has finally started to ease monetary policy conditions for consumers and businesses. Public-private partnerships approvals have risen whilst local government bond issuance has increased to help finance the projects.
To maintain growth following the latest round of US tariffs, the PBOC produced a coordinated response in the form of liquidity stimulus and fiscal measures. To underline its easing bias, the PBOC provided another 100-basis point cut to its reserve requirement ratio, injecting further liquidity into the system through Chinese banks.
These actions are a clear statement of intent in tackling the growth deceleration that we have seen over the first half of the year but what could be next?
Potential policy paths and implications
While it is not clear what form the next response will take, a significant policy action is almost certainly forthcoming. In recent months there have been regular announcements from the central government, PBOC.
A managed currency depreciation through monetary easing via interest rate cuts and perhaps even a quantitative easing programme is possible. Unlike a managed currency depreciation through the daily fixing, a monetary policy style depreciation is unlikely to impact markets as much.
The most likely outcome would be strong performance from Chinese equities, supporting other risk assets in the process. The US dollar would most likely strengthen after such a move.
The possibility of fiscal stimulus targeted at investment expenditure. Something similar to the large credit stimulus that China undertook in 2016/17 could lead to higher commodity prices through elevated Chinese infrastructure demand as well as rising Emerging Market assets and high beta equities.
China could also sell US and other developed market assets to trigger a hike in yields and a sell-off in US equities. China refrains from using its substantial holdings of US treasuries to inflict damage on US asset markets to dent President Trump’s resolve but has a great opportunity to do so.
While selling substantial portions of its reserve holdings would likely result in a steeper yield curve, lower US equities and a weaker US dollar, China is perhaps keeping this one in reserve.
There are many options open to the Chinese, and each will impact markets in the region and globally to a varying degree. Whatever steps Beijing takes, the US-China relationship will remain a key determining factor for markets over the medium to long term.
In the meantime, investors should continue to closely monitor any signs of policy movement, consistently updating their investment frameworks to take advantage of any opportunities presented whilst remaining extremely vigilant.
Disclaimer: This article was issued by Maria Fenech, Credit Analyst at Calamatta Cuschieri. For more information visit, https://cc.com.mt/ . The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.