China Weekly 02.15

CHINA WEEKLY

What was shaping up to be an unexciting week in China ahead of the week long New Year’s celebration was turned on its head on Friday, with the unexpected hike in bank reserve requirements. The increase in banks’ reserve ratio is the second of the year and will take effect on Feb. 25. The hike of half a percentage point now brings the amount of deposits banks need to keep in reserve to 16.5%, reflecting a feeling in Beijing that the brakes need to be applied harder. Estimates by analysts at Barclays Capital indicate that the half point hike will drain about 300 billion yuan from the banking system.

Standard Chartered head of research Stephen Green in Shanghai said “the timing caught everyone by surprise” and that the action appeared to be of a technical nature. Designed to mop up some excess liquidity that had been pumped into the system ahead of the week long holiday, when the industrial economy virtually shuts down and tens of millions of people return to their home provinces.

Despite all the talk of tightening in recent weeks, sparked by the earlier reserve requirement hike in mid-January, banks still managed to lend an astronomical 1.4 trillion yuan last month. The official target for lending in 2010 is 7.5 trillion yuan ($1.1 trillion), a fifth of that total was lent in one month. The uncertainty over what other tightening measures are in store threatens to make it a bumpy start for the Year of the Tiger. Investors will have a few days to digest the news since Hong Kong only returns on Wednesday and Shanghai is closed for trading the whole week.

Data released on Thursday is thought to have spurned the Chinese government into hiking the reserve ratio, however, despite some staggering figures reported, no one expected the authorities to turn around quite so quickly and hike the reserve ratio, and as mentioned above, the move took everyone by surprise. CPI climbed 1.5% in January compared with a year earlier and PPI was 4.3% higher. The key release was that banks had extended 1.39 trillion yuan in loans in January, more than three times the 379.8 billion extended in December and 18.5% of the full-year lending target. Money supply, as measured by the M2, was up 25.98% also higher than expectations. Despite a rebounding economy and solid data coming out of China, the Shanghai Composite is now among the worst performing benchmark indexes in Asia so far this year, having lost about 9.5%. The Hang Seng China Enterprises Index, a benchmark tracking performance of large-capital Chinese shares listed in Hong Kong, has even sharper losses, having dropped 12.5%, while the Hang Seng Index has given up around 9% so far in 2010. This underperformance from Chinese stock markets is reflective of concerns investors have about Chinese policy tightening.

Elsewhere, China’s trade surplus shrunk by more than expected in January, as import growth outpaced gains in exports, although analysts said it was hard to discern a clear trend because of holiday-related distortions when comparing between periods. China’s trade surplus for the month totaled $14.17 billion, slipping from $18.44 billion in December. Bank of America Merrill Lynch analysts said year-on-year trade data comparisons were “almost meaningless” because of the Chinese New Year which fell in January last, but will take place in February this year.

On a greener note, the Chinese government upgraded its wind installation capacity target for 2020 to 150 gigawatts from 100 gigawatts, representing a compound annual growth rate of 20% for accumulated wind generation capacity, according to analysts at Yuanta Research. Growth in the wind industry has been strong due to supportive policies, while the total cost per watt is declining due to decreases in wind turbine costs. The government is also building ultra-high voltage transmission lines to send electricity from western China to the eastern coastal regions. Analysts cite a variety of beneficiaries from component manufacturers to construction workers but none as great as the environment, whose problems have been growing as the population grows. Glaciers in the nations northwest have decreased 21% in size since the 1950s, as a result all of China’s major rivers have shrunk over the past five decades and annual average air temperature has increased. The reason for such changes is not complicated, it’s because China’s main source of energy supply comes from coal, and China’s insatiable desire for power is rapidly depleting the 115 gigatonnes (billion metric tons) of coal reserves, according to a survey by McKinsey. Therefore, the administration is being forced to look into other sources of power as abundant to support their ever-growing power needs.

Written by Joel Kruger, Technical Currency Strategist for DailyFX.com
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