China Foreign Trade grows 4.8% Y-O-Y to RMB 9.89 trn in Q1

General Administration of Customs data release.

According to General Administration of Customs data, China’s foreign trade grew by 4.8 percent on a yearly basis to 9.89 trillion yuan (USD 1.44 trillion) in the first quarter of 2023.

The data shows the country’s exports rose 8.4 percent year-on-year to RMB 5.65 trillion yuan, while imports rose by a modest 0.2 percent to RMB 4.24 trillion.

Trade with ASEAN, its largest trading partner, was a major driver reaching RMB 1.56 trillion in the first quarter, up 16.1 percent, accounting for 15.8 percent of China’s total foreign trade.

Imports and exports to the European Union, the United States, Japan and the Republic of Korea reached RMB 1.34 trillion, RMB 1.11 trillion, RMB 546.41 billion and 528.46 billion, respectively, over the same period, accounting for 35.6 percent of the country’s foreign trade.

From January to March, China’s imports and exports with economies participating in the Belt and Road Initiative surged 16.8 percent year-on-year accounting for 34.6 percent of its foreign trade, while trade with other participating countries of the Regional Comprehensive Economic Partnership rose 7.3 percent from the first quarter of 2022.

De-dollarization Accelerates

Why countries are trying to insulate themselves from dollar diplomacy.

At the heart of US policy is a fear of the world growing beyond it. However, despite its efforts it has been unable to prevent it. This is the cause of many of the world’s problems now and the US’ use of the dollar as a weapon to prevent growth is driving a move away from the dollar in the 21st Century.

Prior to the Great Financial Crisis, IMF and World Bank loan portfolios were already shrinking but the shift away from the dollar has greatly accelerated in recent weeks with China, Russia, India, Saudi Arabia, Kenya, Indonesia and Brazil, among others, all taking steps to insulate themselves against the iniquities of the USD to greater or lesser extents.

At the end of the Second World War the United States was the world’s largest industrial economy, largest creditor nation and held over sixty percent of the world’s gold reserves. Developed economies linked their exchange rates to the USD and the USD was linked to gold. This ended in 1971 when President Nixon was forced to suspend the Dollar’s convertibility to gold due to massive military spending in Southeast Asia that French banks recycled into gold at the Fed. This became known as the “Gold Window.”

By closing the Gold Window, the USD became the world’s first fiat reserve currency – meaning it was effectively backed by nothing. However, a subsequent deal with Saudi Arabia and OPEC allowed the USD to retain its reserve status.

The Reagan years further undermined the rationale for the dollar’s reserve status by transforming the US from an industrial to a financial economy, undermined the competitiveness of US production and facilitating outsourcing of productive capacity to the developing world taking advantage of lower wage costs.

As US trade deficits grew and military spending abroad ballooned, countries were forced to exchange vast piles of dollars for treasury bonds – effectively lending the money back to the US at negative real interest rates. Through economic sanctions and central reserve seizures the US has sought to weaponize the USD to punish those that dissent against the neo-liberal hegemony of Washington.

As it becomes obvious the US has no intention – or means – of ever repaying its debts, countries have been forced to ask: what’s the role of the US in their international transactions? Unfortunately, the answer increasingly looks like a protection racket. Ensuring your leaders don’t get assassinated, your government doesn’t get ‘regime changed’ and your country doesn’t get bombed.

With this in mind, countries across the world are taking steps to insulate themselves from the potential weaponization of US dollar by shifting bilateral trade to either local or powerful third currencies like the Chinese RMB.

De-dollarization of the global economy is not a process that can happen overnight because the USD is heavily entrenched and still carries many benefits. As Yves Smith of Naked Capitalism points out, in many ways and for many people it’s still the cleanest shirt in the laundry.

Moving central bank reserves out of USD will take time and needs planning as well as structural adjustments within alternative currencies but will ultimately happen. Ironically for the RMB, China’s inability to generate the massive current account deficits necessary to absorb foreign accumulations of Chinese currency will slow this process.

It is also worth remembering that it took two world wars and a Great Depression to end the reign of the Pound Sterling as the global reserve and the USD is more entrenched. But in the digital age things can happen fast and global opinion is shifting quickly as the US becomes more unpredictable and mercurial.

A Quadrillion Dollars Used To Be A Lot of Money

Can the SVB debacle unravel the derivatives house of cards?

A version of this article appeared in Beijing Review magazine.

On Friday March 10th, Silicon Valley Bank (SVB), the 16th largest bank in the United States, became the second largest banking bankruptcy in US history. This was the third bank to collapse in week following New Republic and the crypto-focused Silvergate. In the wake of the announcements President Biden was quick to reassure depositors that the Federal Deposit Insurance Corporation (FDIC) would cover all deposits irrespective of the FDIC USD $250,000 ceiling.

The collapse of SVB is already creating ripples across the world. Bloomberg reported recently that Sweden’s largest private pension provider has a potential USD $2bn in exposure to banks linked to SVB and Forbes reported hundreds of Indian tech start-ups have been affected, to name but two. Added to this, there is reason to believe the crisis could become more serious than the 2007-9 financial crisis.

The first reason is the nature of the crisis. While the financial crisis of 2007-8 was caused by widespread corruption linked to the derivatives market for repackaged sub-prime mortgages that had been fraudulently valued the current crisis is systemic and was caused by overinvestment in Government issued debt or Treasury Bonds.

COVID-pandemic related measures in the US created a vast transfer of wealth upward in the US economy and this transfer materialised as huge deposits in the banking sector that banks invested in treasury bonds in order to profit from arbitrage. At the time, banks were paying around 0.2 percent interest on short-term deposits and were able to make upwards of 2 percent on treasury bonds.

However, this vast transfer of wealth, combined with the supply chain disruptions caused by the COVID-pandemic and compounded by anti-Russia sanctions related to the conflict in Ukraine fuelled inflation across the West leading to wage rise demands that potentially threatened corporate profits and correspondingly stock prices.

In order to stop these wage demands and protect asset prices in the financial sector the Fed decided to increase unemployment by 2 million by raising interest rates. However, to do this the Fed had to issue new bonds at a higher rate of interest thereby reducing the value of the bonds held by the banking sector. This meant that the bonds held by the banks were no longer worth what the banks had paid for them.

Essentially this is a paper loss and everything would have been fine so long as no one needed their money in the next ten years. The problem came when depositor decided to move their deposits to money management funds based on the newly issued bonds that offered a much higher rate of interest. To cover these withdrawals the bank was forced to sell its treasuries and realise the losses on its balance sheet making it incapable of covering the deposits.

So, the question is: How big is the problem? Well, according to the FDIC, unrealized losses on investment securities across the banking sector are currently running at around USD $680bn. Although, this is not a small amount of money, it is relatively small compared to the totality of the derivative debacle of 2007-9 when the Fed bailout the banking sector to the tune of USD $700bn in taxpayer’s money and a subsequent USD $40 trillion in quantitative easing (QE) over the next 13 years.

President Biden, Treasury Secretary Yellen and Chairman of the Federal Reserve Powell were quick to try to calm markets. Biden announced the FDIC would cover all deposits even those over and above the legally mandated USD $250,000; Powell announced the collapse would not alter the Fed’s interest rate policy before quickly back-pedalling under pressure from the financial sector; and Yellen announced that the Fed would open a discount window allowing banks to borrow against the book value of their now underwater treasury investments.

This creates two immediate problems for the Fed. By guaranteeing deposits in banks deemed too important to fail they are potentially opening the door for runs on banks that are not too big to fail and by allowing banks to borrow against the book value of their assets – not the market value – they are potentially on the hook for USD $620bn.

It also means the Obama-era policy of quantitative easing has painted the Fed into a corner. In essence, QE has inflated asset prices – stocks, bonds and real estate – so much that any attempt to cool the economy and address inflation will have significantly negative consequences for the financial markets. It also can’t lower interest rates to reinflate asset prices without stoking inflation.

In essence, the Obama policy kicked the financial can down the road without addressing any of significant structural problems it illustrated. The most significant of these structural problems is the derivatives market which has ballooned since 2007.

Derivatives are basically bets on what will happen in the market and were first invented to help the agricultural sector hedge against unexpected changes in the price of inputs or outputs but grew massively in the era of near-zero interest rates when anyone could borrow money to go to the races.

When Warren Buffet famously labelled derivatives “financial weapons of mass destruction” in 2002 the ‘notional value’ – the value of the assets underlying the bets – of the derivatives market was estimated at USD $56 trillion. However, the Bank for International Settlements (BIS) estimated the notional value of the derivatives market was USD $610 trillion at the end of June 2021. BIS estimate that figure could now be close to one quadrillion, many time larger than global GDP, but the real figure is hard to know because most of these trades are done privately.

Derivatives add a layer of financial risk to the economy because the market is so interconnected that failure by a counterparty can quickly have a domino effect and most of the banks involved are too big to fail.

According to Ellen Brown, founder of the Public Banking Institute; “[Derivatives] are sold as insurance against risk, which is passed off to the counterparty to the bet. But the risk is still there, and if the counterparty can’t pay, both parties lose. In “systemically important” situations, the government winds up footing the bill.”

As of the third quarter 2022, the federal bank regulator, the Office of the Comptroller of the Currency, over 1000 federally insured financial institutions held derivatives but over 88 percent were held by five large banks: J.P. Morgan Chase ($54.3 trillion), Goldman Sachs ($51 trillion), Citibank ($46 trillion), Bank of America ($21.6 trillion), and Wells Fargo ($12.2 trillion). Increasingly it looks like Credit Suisse might have been the first domino to fall.

Worryingly, many of the bets in this market relate to interest rates which are now rising. Additionally, most of these bets are placed on assets upon which the purchaser has no underlying interest. As Brown points out, “If you don’t own the barn on which you are betting, the temptation is there to burn down the barn to get the insurance.”


Beijing Ponders Rent Controls and Regulation

The government in Beijing is eyeing plans to introduce rent controls and regulate the fees realty agents can charge-no doubt welcome news for many residents trapped in an overheating housing market.

Authorities in Beijing are currently considering the possibility of new rules for housing rentals that would limit rent increases and set guidelines limiting rents and agent fees

The Beijing Municipal Commission of Housing and Urban-Rural Development’s proposed scheme contends that current legal structures do not meet the current needs of new rental models, such as rental loans and long-term apartment leases. Under the new proposal the housing commission will monitor rent increases and could be given powers to limit increases, investigate and punish rent gouging.

If the draft legislation passes, Beijing will be China’s second city to introduce such measures after Shenzhen enacted similar legislation earlier this year.

Under the new proposals landlords will be restricted to collecting rent monthly and deposits will be limited to one month’s rent. At present in Beijing typically landlords demand three month’s rent in advance plus a month’s rent deposit; however six month’s rent is not unheard of.

Following the collapse of Danke, one of China’s largest online apartment rental platforms last year, regulators have been keeping a close eye on the rental market and the debt fuelled growth in the sector.

Danke, and its competitors, business model was to rent apartments from landlords on long-term contracts then sublet them tenants. The pandemic driven financial collapse of Danke resulted in the eviction of thousands of tenants even though rent had been paid in advance.

Beijing Takes Collection of Land Sales Income Out of Local Government Hands

The central government is aiming to change the way in which revenue from land sales is collected and monopolize it in Beijing’s hands, as part of the country’s efforts to crack down on what Beijing sees as profligate spending by local authorities using the money they make from land use rights according to Caixin.

Under the new system local governments will transfer the right to collect land sales revenue from their natural resources departments to tax authorities overseen by the State Taxation Administration (STA), according to a recent decree issued by the central government. One city and six provincial-level regions have already joined a pilot program paving the way for national roll-out on January 1, according to the notice.
The reforms are part a plan issued in early 2018 that tax authorities should extend their remit to collecting nontax revenue under in a bid to make collections more efficient and better regulated.

The proposed overhaul of which government departments will collect the more than 8 trillion yuan of land sales revenue will help the central government keep better track of the money and help stop local governments from shoring up their financing vehicles with the funds, as tax authorities ultimately answer to the central government’s State Tax Administration.

Beijing has been working hard to control local government debt for years, mostly hidden off-balance-sheet in local government financing vehicles (LGFVs), companies set up specifically to borrow the money needed to fund spending on public welfare projects and infrastructure, which generally bring in low returns. This situation arose when Beijing banned local governments from issuing bonds to borrow directly.

For more on this and how LGFVs work read this article on China’s shadow banking sector and local debt.

The new measures are an attempt to plug the loopholes where local governments illegally return part of land transfer revenue to LGFVs participating in land auctions, or allow them to reduce or delay payments. Under the new system, local governments will find it more difficult to use land transfer revenue for their own purposes forcing them to be more compliant in terms of using the money.

However the new measures could significantly affect the ability of LGFVs ability to repay debt already owed to local governments and private investors.