Summary

Leland focused his conference call on the 4 key developments of the 2^nd quarter, as seen through China Beige Book data. Though topline data showed everything to be remarkably stable between Q1 and Q2, CBB data show significant (and mostly troublesome) trends lurking beneath the surface.

First, retail, services and the general consumption economy continue to see a very fragile recovery. Manufacturing, property and commodities led Chinese growth throughout the early stages of the COVID recovery, and yet—problematically—this is still the case in Q2 2021. Services is merely treading water, with flat performances the past couple quarters, and no sign of the expected surge that was supposed to accompany the end of shutdowns. Retail’s numbers in Q2 were simply terrible, with significant slowdowns in almost every metric and retail borrowing dropping to the lowest level in CBB history. While much will obviously depend on the global recovery, at this point there is little evidence in the data that the consumer spending boom we are told will come at the end of the year in China will actually take place.

Second, CBB data make clear that China is not exporting inflation. ‘Chinese inflation’ spikes have been almost exclusively within the manufacturing-to-commodities channel and have not been seen broadly, or intensively within other key sectors. Moreover, key export sub-sectors within manufacturing, such as IT/electronics and textiles, are seeing comparatively little inflationary pressure. Lastly, if you take manufacturing out the equation, CBB is not even seeing wage inflation accelerate overall in China due to middling results in retail and services. In sum, it’s hard to see current levels of inflation in China as problematic from a macro perspective, and there is as yet no evidence that China is exporting this inflation to the U.S. or elsewhere.

Third, Leland addressed the question of whether Beijing can control the Commodities Supercycle. Goldman Sachs and others have claimed recently that Beijing had no realistic odds to make a dent in it, so should basically just give up. CBB disagrees, and in Leland’s telling this totally misunderstands what Beijing's intentions are. Beijing’s goal is not to reverse price hikes, which reflect the real situation—strong demand, insufficient supply due in part to supply chain problems, etc. Instead, it is to drive the speculative "moneyball" out of commodities,  to somewhere (anywhere!) else.  That is the super-fuel that has been sending already strong demand into the stratosphere.  Without the super-fuel—speculative bets—this rally can takes on a much healthier (and less worrisome) dynamic. And so far, Beijing’s policies have been working.

Fourth is the big issue of the quarter, credit. Over the past few years there have been no shortage of de-leveraging claims made by Beijing, which Miller said were not credible. But in Q2 the data show a level of credit tightening that is unprecedented in over a decade of CBB historical data. There have been record lows in credit everywhere in Q2: overall borrowing is at the lowest level ever seen by CBB, while borrowing by SOEs and retailers are also at all-time lows. Looking at this though a geographical lens provides even more clarity: outside the Big Three regions of Shanghai, Beijing and Guangdong, borrowing levels have dropped into the single digits, another unprecedented development. Interestingly, CBB data show the problem is not that capital costs are too high, or that banks don’t have enough capital to lend. Rather, the problem is two-fold. On the lender side, loan rejections hit a 5 year high, suggesting that government pressure continues to push policy tighter. But perhaps more importantly now, loan applications slid hard, again, and CBB’s pent-up loan demand indicator is at the lowest levels ever recorded. The combination of government deleveraging pressures and moderating loan demand at corporates has set up an imposing challenge for growth for the 2H of this year.

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