The Ripple Effect of Quantitative Easing

You can print money to bail out a bank, but you can't print life to bail out a planet. - Paul Hawken (American Environmentalist)

China has recently taken a significant step by introducing a Quantitative Easing (QE) policy aimed at injecting liquidity into its stock market. With approximately 20% surge in the stock index within a week and high-profile investors like Michael Burry increasing their stake in Chinese markets , this signals a major transition. After years of heavy reliance on the real estate sector (30% of China’s economy), the shift towards liberalizing stocks is poised to reshape China’s financial landscape.

What does this mean for the global economy, especially for countries like India?

This article dives into the intricacies of QE, previously implemented by the USA during the 2008 housing market crisis and the 2020 COVID response, and examines how China is now strategically working to keep its wealthy investors within its borders. It also explores how India should navigate and respond to these evolving global economic dynamics.

In recent years, the USA has heavily relied on money printing, particularly in 2021, to stimulate its economy. As we’ve seen before, QE in major economies often has a ripple effect. China's strategic injection of $284 billion into bond purchases, as part of a fresh fiscal stimulus, is likely to push asset prices higher, similar to the post-2008 era when we saw massive liquidity flowing into markets across the world.

The USA institutionalized QE in 2008, printing money and flooding the market with liquidity. China opposed this approach because, while it created internal debt for the USA, the increased money supply flowed to countries like India and China through FII channels. As a result, these countries lost control over parts of their domestic companies, while their external debt rose.

In 2021, following the COVID-19 correction, the USA again relied heavily on money printing. Since 70% of global trade is conducted in USD, it is easier for the USA to manage this internal debt, but other economies face inflationary pressures as a consequence. In contrast, China has historically maintained more control over its capital markets, managing external debt and avoiding excessive money printing.

What steps has China taken recently to enable more money printing?

As shown in the two figures below, China has significantly increased its foreign exchange and gold reserves , strengthening its balance sheet.

When a country prints large amounts of money, other nations question its ability to sustain it, which is why it's crucial to demonstrate economic strength. By boosting its reserves, China is reinforcing its financial position, providing it with greater capacity to engage in money printing. This serves as a counterbalancing position for the increased liquidity generated by Quantitative Easing.

Analyzing the Dynamics of the Chinese Market

Real estate accounts for 30% of the Chinese economy, as Chinese investors have not heavily invested in the stock market due to its cyclical nature, as illustrated in the graph below.

In 2021, the real estate market in China experienced a correction, highlighted by the collapse of major builders like Evergrande Group , which also impacted banks. In response, wealthy Chinese investors began redirecting their investments toward real estate in countries like Thailand, Malaysia, Singapore, and Dubai, and are now increasingly looking at opportunities in the EU.

To ensure that these wealthy investors remain in China and support the domestic economy, the Chinese government imposed a ban on investments in foreign real estate. Consequently, the government is considering opening up the stock market, making QE a key strategy in this effort.

It's also important to note that China ranks second in GDP, and whenever a major economy engages in QE, it creates a domino effect across the globe.

Information Arbitrage Opportunity?

Historically, from 2000 to 2008, India was undervalued while the USA was overvalued, leading to significant gains in the Indian stock market compared to the USA. The situation reversed from 2009 to 2017.

Analyzing the timeline from 2020 to the present, my research indicates that there may be an arbitrage opportunity for diversifying portfolios into Chinese ETFs.

A New Era of Global Competition

With China holding robust foreign exchange and gold reserves, it is strengthening its balance sheet while expanding liquidity through QE. This approach contrasts with the USA’s aggressive money printing and places China in a stronger position to absorb external shocks.

Major economies have recognized the importance of democratizing the stock market, and the world is moving toward a multipolar landscape. As investors, diversification is crucial.

Following the massive inflation that affected India after 2020, China’s current QE could lead to similar issues. Therefore, it is essential to consider strategies for hedging your portfolio against inflation.

What’s Next for India?

As the world suffers with inflation, economic shifts, and stock market volatility, India finds itself at a critical juncture.

Press Note 3 specifies that investments from countries sharing a land border with India, including China, require special government approval. However, looking at history, industrialization in Germany was fueled by British capital, and Japan's rise was supported by U.S. and Chinese investments. Even geopolitical rivals have collaborated for mutual economic gain, balancing both competition and cooperation.

Given this precedent, should India reconsider and allow Chinese FDIs?

This could inject much-needed liquidity into the economy, acting as a boost to Foreign Institutional Investment (FII). This influx of capital would support India’s infrastructure and manufacturing sectors while also providing a hedge against potential global economic volatility. While it may increase the GDP-to-debt ratio in the short term, it could pave the way for stronger industrial growth and long-term economic stability.