China’s erstwhile credit cycle is a fading force in global markets

(Bloomberg) — China’s credit engine, which once powered industries and markets around the world, is stuck in low gear and set to stay there.

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Data for May this week is expected to show a resumption of credit growth after a shock contraction in April, the first in nearly two decades. But no one expects a return to the days when Beijing would engineer borrowing booms to fuel the world’s second-largest economy.

Especially since the 2008 crash, China has issued loans to build homes and infrastructure, which has kept the economy humming. Now it is stuck in a housing slump and already has many roads and high speed rail. Policymakers are looking for new ways to support growth such as high-tech manufacturing that won’t rely so much on expanding debt.

The People’s Bank of China has repeatedly signaled that it has no intention of revving up its lending engine again. Even if he wanted to, there is little demand for credit. Government bond sales rose last month, but the real estate crisis has left Chinese households and businesses reluctant to finance spending or investment by taking on new debt.

Household savings that used to go into property are now flowing into the financial system, but there aren’t enough borrowers on the other side, said Adam Wolfe, an emerging markets economist at Absolute Strategy Research. The PBOC is trying to create a new normal for credit growth, he said.

If this effort succeeds, Chinese debt could lose its status as a strong leading indicator for the country’s business cycle and thus for global commodity markets.

To see how this has worked out over the past 15 years or so, a useful guide is the credit impulse, which measures the ratio of new debt to gross domestic product. It shows four distinct stimulus flows since 2009.

As early as 2021, China was building its way out of the pandemic in a credit-fueled construction boom that absorbed raw materials from around the planet and helped fuel a broad stockpiling of goods.

Around that time, Federal Reserve researchers concluded that China’s lending policies explained more than a fifth of all commodity price movements since the global financial crisis. In a separate study, they estimated that when China’s credit impulse increased by 1% of GDP, it provided a similar boost to global trade and a 2.2% increase in commodity prices, as well as lifting the Chinese economy. .

But from 2022, the credit impulse has essentially decreased.

Credit growth data is still a benchmark for the gauge of Chinese industrial activity, but is a less strong indicator now, said Li Xuezhi, head of Chaos Ternary Research Institute, a commodities analysis firm. The economy used to be driven by investment in property and infrastructure, but the new quality manufacturing forces that Beijing is supporting now include other forms of financing such as venture capital, Li said.

The credit slowdown is fueling debate over various alarming scenarios for China’s economy. One is a liquidity trap, where lower borrowing costs are unable to stimulate growth. Another is a balance sheet recession, where households and companies are focused on clearing debt rather than spending.

As China seeks a growth model based on improving productivity rather than expanding debt, the PBOC’s priority is to ensure that existing funds are used more efficiently, according to Wolfe. For it to succeed, the relationship between aggregate credit and the industrial cycle must break down, and there are signs that it already is, he said.

Authorities have taken steps in recent years to rein in over-indebted real estate developers and clean up so-called hidden debt owed to local governments that doesn’t appear on their balance sheets. Property and local government financing vehicles accounted for about 70% of new credit generated over the past decade, according to an estimate by Zhang Bin, a researcher at the Chinese Academy of Social Sciences.

The PBOC is also trying to make sure that credit is reaching the real economy, rather than the world inside the financial system. Authorities have cracked down on loopholes that allowed companies to make bogus loans, arbitrating between higher deposit rates and cheaper borrowing.

An era when credit growth was seen as a key benchmark by both investors and policymakers has left banks with incentives to increase their numbers.

One such case is short-term interbank loans known as bankers’ acceptances. Their cost fell to the lowest level this year in May, according to data from Zhongtai Securities Co. This is usually a sign that lenders are trading invoices with each other to increase loans because they are trying to find companies that want to borrow.

Even if such techniques help boost loan numbers coming this week, investors will not be impressed and will look deeper, said Mary Xia, research director at Beijing Jifeng Asset Management Co.

The market understands that weak credit growth is due to problems on the demand side, she said.

–With help from Winnie Zhu.

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