China's commodities fallout

Australia’s biggest trading partner is on track to curb its appetite for commodities over the rest of the year, Citigroup's senior China economist says.

China’s slowing economy, tighter monetary policy and the precarious state of the country's small banks which have lent to property developers, all spell less demand for Australian commodities through the rest of the year, former People’s Bank of China official Shuang Ding, now Citigroup’s senior China economist, says. 

Ding, who also worked for the International Monetary Fund for 13 years, told Markets Spectator the growth rate of the world’s second-biggest economy is falling. In the first quarter this year China’s economy expanded by 7.7%. In the second quarter Ding expects it to grow by 7.5%, the Chinese government’s 2013 target. But that growth rate is “at risk,” Ding says.

That is because the government is scaling back its direct investment in the economy. Last month it notably, for a time, did not provide enough liquidity to the interbank market. Many Chinese financial institutions have come to rely on funds from the interbank market to balance their books at the end of the month or quarter.

The Chinese government is concerned, Ding says, that some banks are extending loans to property developers who buy land from local governments for speculative property development (See Adam Carr's Crunching Chinese credit crunch fears). By pulling back on liquidity to the interbank market for a time the People’s Bank of China was trying to “teach a lesson” to China’s smaller banks, Ding says: that they risked default if they continue such speculative lending.

The Citi economist says there is speculation that the Chinese government may allow a bad bank to fail as part of an effort to reinvigorate the Chinese financial system. But such talk has been squashed by the government. It has concluded “now is not the time” to allow such events to occur, Ding says.

Unlike many Asian nations in the late 1990s whose extensive foreign borrowings caused a financial crises when their currencies plummeted, China’s foreign borrowings – including trade credits – is less than 10% of gross domestic product, or about $US700 billion of the $US8 trillion growth figure. China has enough funds to deal with a potential domestic crisis, Ding says. It can also loosen credit and make direct investments in the economy to stem any fallout from bankruptcies.

But the crackdown on speculative lending will result in monetary policy tightening in China in the second half of 2013. China’s regulatory authorities will also try to curtail Chinese banks selling wealth management products. These carry higher interest rates than typical bank deposits and the money garnered from so-called wealth management products are then often lent to fund property development of land sold by local governments.

If such property development slows along with the government direct investment in infrastructure as monetary policy tightens, then, Ding says, demand for base metals will be lower in the second half of this year (see Tim Treadgold's Resources stocks fall in commodities price gap). Commodity stockpiles are “high” in China, he says.

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