In this author’s opinion, at least, economists are underestimating the fiscal stimulus “demands” the market is making, especially in light of the fact that the let us call them ammunition levels of central banks have seen better days. Gone are the days when for example the United States criticized China for weakening its currency so as to gain a competitive edge, with the international community frowning down upon what was considered a “currency war” attitude.
Nowadays, monetary excesses are the norm, with interest rates negative over in the European Union as well as Japan and as far as the United States is concerned, we are most likely not that far away from such scenarios.
Why is this being done?
Primarily because nobody wants to accept the political consequences associated with a deflationary implosion on their proverbial watch and as such, the prevailing sentiment among market participants revolves around the fact that the authorities (in China and elsewhere) have to “rescue” the market and aggressive monetary policy initially seemed like the ideal candidate.
Once again, why?
Simply because when it came to at least the two previous financial calamities (the Dot-Com Bubble and the Great Recession), it… well, worked.
Unfortunately, however, the market demanded much more the second time around (Great Recession) and as such, let’s just say that to combat the Great Recession, central banks had to essentially go almost one hundred percent “all in” or to put it differently, the Great Recession measures were quite close to exposing the ceiling in terms of what can be accomplished through the sheer “might” of central banks.
The beginning of the Covid-19 crisis essentially exposed the actual ceiling and, frankly, we are in a situation where markets understand that central banks alone cannot “save” them. Therefore, tremendous pressure has been placed (through dramatically falling asset prices) on governments to put their proverbial foot on the pedal properly in terms of fiscal policy.
What is the difference between monetary and fiscal stimulus?
Primarily the fact that when it comes to fiscal stimulus, money ends up in the let us call it “real” economy, whereas the same cannot be stated about monetary stimulus. As perhaps the most obvious case study, the trillions of dollars that have been injected into the financial system oftentimes ended up simply as reserves in the banking system and at best, they indirectly led to asset price inflation (corporate buybacks, for example) rather than coming even remotely close to generating actual consumer price inflation.
Fast-forward to the present and we have all but forgotten what true inflationary threats look like and even more so, are shrugging off such risks and for the most part calling those who dare point them out doom and gloomers who have been proven wrong time and time again. An important question therefore arises: doesn’t this risk creating a bit of a “perfect storm” from an inflationary perspective?
It most likely does, for reasons such as:
- The fact that, as mentioned previously, the market demands measures which are far more likely to result in consumer price inflation this time around by not “settling” for ultra-aggressive central banking policies. They also expect strong fiscal stimulus, putting authorities in a position that tends to be quite difficult to manage
- The fact that inflation threats are not being taken seriously and you as an economist risk public ridicule for the mere mention of inflationary threats as genuine risk factors in today’s pretty much exclusively deflation threat-centered landscape
- The fact that, in light of realities such as it being election year over in the United States, NOT embracing a fiscal stimulus paradigm is pretty much politically unacceptable, as a Donald Trump re-election scenario becomes quite unlikely if elections occur in an environment that revolves around ultra-depressed asset prices
What does this mean for Chinese asset investors?
For the most part, the answer revolves around volatility and how dangerous it can be to try to “time” the market.
For example: do you sell your existing Chinese assets in this deflationary environment so as to free up liquidity? Of course, you could, but what were to happen if you ultimately do liquidate, end up sitting on a significant cash and cash equivalent position, only to notice that things eventually spiral out of control and inflation problems start appearing? In such scenarios, if you are not wise and/or lucky enough to buy back in quickly enough, you may very well end up realizing that after drawing the line, you would have been better off not liquidating assets in the first place.
What to do, in that case?
If you are desperate for liquidity and have no choice but to sell assets in a deflationary environment, the equation… well, is what it is, with you not having much choice. If however it is possible to generate enough of a cash cushion through methods which do not involve selling assets (anything from working harder to tapping existing cash reserves), it might be wise to do just that and think not twice but ten times before liquidating your best assets just as governments and central banks are about to flood markets with liquidity in a way which is considerably more likely to be conducive to actual inflation problems this time around.
Navigating volatile seas is never easy and, indeed, Chinese assets can get quite volatile. But, make no mistake, these are career-defining times and if you play your cards right, you can be rewarded more than generously once the dust settles. For this to be possible, however, you have no choice but to be thorough and make in some cases brutal decisions with respect to the future of your portfolio. As always, the ChinaFund.com team is at your disposal should you and/or your organization be in need of assistance in that area, simply send us a message through the Contact section of ChinaFund.com and we will get back to you as soon as possible.