Letter From Shanghai No 898 - Further Clarity Is Required

There was a time when I would start this letter with the overnight release of the Fed minutes from May, in which the committee indicates it will accelerate interest rate rises beyond the “neutral rate” by both increasing the pace of rate rises and lengthening the tightening cycle. That the Fed are woefully late in implementing these policies is well understood, real interest rates are above a negative 7%, so the US equity markets, which moved unchanged to higher, shrugged off the Fed’s statements, and so will I.

I will turn instead to the meeting hosted yesterday by Premier Li Keqiang under the auspices of the State Council. As background, two days ago, the State Council agreed and deployed a package of 33 measures in 6 areas covering finance, stabilisation of industry, supply chains, promotion of consumption and effective investment, and energy security. Yesterday’s National Economic Stabilisation Conference, a town hall-style teleconference, had, by some estimates, 100,000 attendees, all representatives of the administration throughout China, both high and low.??

And here, I will quote the Securities Times. “Li Keqiang said that since the beginning of this year, under the strong leadership of the CPC Central Committee with Comrade Xi Jinping at the core, all aspects have implemented the deployment of the CPC Central Committee and the State Council, vigorously responded to difficulties and challenges, especially the impact of unexpected factors, and have done a lot of effective work. However, in March, especially since April, indicators such as employment, industrial production, electricity consumption and freight have fallen significantly, and the difficulties are greater in some aspects and to a certain extent than when the epidemic severely impacted in 2020.” “We are currently at a critical juncture in determining the economic trend of the whole year. We must seize the time window and strive to bring the economy back to the normal track. Efforts should be made to ensure that the economy achieves reasonable growth in the second quarter and the unemployment rate drops as soon as possible, so as to keep the economy operating within a reasonable range.” Adding in other unofficial reports, “For an economy as large as China, once the economic operations fall out of a reasonable zone, it will take a long time and huge costs to bring it back.”

In a sense, the meeting was revealing, not so much for the messages delivered but for those it did not. For us, we can see it is clear that Beijing policymakers understand that the economy has severe problems. But the message to 100,000 local administrators that they must suppress Covid transmission while encouraging economic growth is very difficult to effect in the real world. One must assume local administrators must balance the easily measured Covid infection rate with a more nebulous idea of stimulating the economy or at least maintaining economic prosperity. I would not be surprised if local government officials privately consider the economy a long-term issue, however, a misstep on infection rates and one can be sacked today, prompting a natural caution. The situation is further complicated by the emergence of the BA.2.12.1 omicron variant in the US, of which there are no signs yet that it causes more severe disease but is believed to be about 25% more transmissible than BA.2, therefore we must expect BA.2.12.1 to wash up on the borders of China soon. It would seem further clarity is required.

Have a good day,

John