Note: This article was published in Caijing magazine, July 10, 2021, please be sure to indicate the source when reprinting. The picture in the text is taken at the Dr. ShengzhongHu Viewpoint in southern Sichuan Province.
<h1 toutiao-origin="h3" > First, the latest changes in China's balance of payments since the epidemic</h1>
At present, China's balance of payments has generally maintained a basic balance. After the covid-19 epidemic, the quarterly current account and capital account have maintained a "one-on-one-one" situation, the size of foreign exchange reserves has not changed much, and the scale of China's foreign assets and liabilities has increased slightly, but the structural changes and potential risks shown by its sub-projects are still worthy of attention.
First of all, China's current account balance quickly turned from negative to positive after the epidemic, but the momentum of rapid accumulation of current account surplus may not be sustained. After the epidemic, since the second quarter of last year, China's current account surplus has increased significantly, reaching $274 billion in 2020, and China's current account surplus in the first quarter of this year is $69.4 billion, and the current account balance accounts for 1.8% of quarterly GDP (Figure 1). However, it is worth noting that the rapid growth of goods trade exports after the epidemic and the narrowing of the service trade deficit have determined the strong rebound in the current account, which is related to the low base effect of global trade under the epidemic, the retaliatory growth of external demand and the obstruction of international travel exchanges.
According to WTO data, China's global export market share in the first quarter of this year was 14.2%, down 1.6% month-on-month, and the decline in global export share hinted that the uninterrupted increase in goods exports and the expansion of production capacity by Chinese companies were not sustainable. At the same time, once the epidemic is effectively controlled and the door to interregional and even global exchanges is opened, the deficit in trade in services may continue to expand. Both would pose a significant headwind to the continued growth of China's current account surplus.
<h2 toutiao-origin="h6" > Figure 1 Current Account Movements in China in Recent Years (Left Axis Unit: US$ Million).</h2>
<h2 toutiao-origin="h6" > Data source: State Administration of Foreign Exchange, CEIC</h2>
Second, after the epidemic, non-reserve financial accounts have experienced consecutive quarterly deficits, and the continuous net outflow of other investments is the most important reason, and the volatility of short-term capital flows has increased significantly. After the epidemic, China's non-reserve financial accounts have experienced continuous net outflows since the second quarter of 2020, with a deficit of non-reserve financial accounts reaching US$34.5 billion in the first quarter of this year, compared with a surplus of US$15.4 billion in the same period last year (Figure 2). Although direct investment has grown rapidly since the pandemic, net outflows from other investments, which primarily characterize cross-border credit flows, have been more pronounced, and even reached a new five-year high. On the one hand, it is necessary to pay close attention to the potential risks to short-term capital flows caused by the increased volatility of other investment items; on the other hand, it is necessary to be vigilant against the reversal of investor expectations caused by foreign enterprises to repatriate investment profits on a large scale.
<h2 toutiao-origin="h6" > Figure 2 The trend of China's non-reserve financial accounts in recent years (unit: US$100 million).</h2>
<h2 toutiao-origin="h6" >Source: State Administration of Foreign Exchange</h2>
Third, non-trading factors such as valuation effects caused by exchange rate changes and asset price fluctuations have led to a reduction in the size of reserve assets. In the first quarter of this year, the reserve assets reflected in the balance of payments (excluding valuation effects) increased by a net increase of US$35 billion, but in the same period, the reserve assets reflected in the international investment position statement (including valuation effects) decreased by US$59.4 billion, and the gap between the two was as high as US$94.4 billion (Figure 3). In fact, for nearly 20 years, China has faced the problem of a large current account surplus that cannot be converted into net foreign assets, which in part means the loss of national wealth. Throughout the first quarter of this year, the world's major currencies and asset trends showed differentiation, the dollar index rose by about 3.6%, the rest of the currencies rose and fell evenly, the world's major stock indexes showed a significant rise, but the price of major bonds continued to fall, and the cumulative decline in gold prices exceeded 9%. Since China's foreign assets are mainly based on bonds and the liabilities side is mainly based on equity, the volatility of stock prices is significantly higher than that of bonds, which leads to the shock of global assets and adversely affects the present value of China's overseas net assets.
<h2 toutiao-origin="h6" > Figure 3 China's reserve asset gap (in US$100 million).</h2>
Finally, although the net errors and omissions after the epidemic turned negative to positive in the first quarter of 2021, the continued net outflow of the vast majority of quarterly errors and omissions in recent years is still worth vigilance. Since the first quarter of 2015, only two quarters of net error and omission have been positive, and the size of net errors and omissions in many quarters has even exceeded the size of the trade account and current account at one point. Since China's net error and omission trend does not present a similar white noise sequence, but shows a sustained, large-scale net outflow, this may mean potential capital flight. Although China's net errors and omissions in the first quarter of this year were $0.6 billion, netting hit a new low in recent years. However, this result is an accidental improvement in the quality of statistical data, which remains to be seen.
<h1 toutiao-origin="h3" > second, the future direction and potential risks of China's balance of payments</h1>
In terms of total, China's balance of payments as a whole maintains a basic balance of "one smooth and one reverse" and a relatively stable scale of reserve assets, but the structural characteristics of China's balance of payments in the near future need to be paid more attention to. To judge the future trend of China's balance of payments, it is necessary to analyze whether this round of latest changes is sustainable, if the recent round of changes in China's balance of payments is caused by structural factors, then this round of adjustment may reflect the future trend of China's balance of payments; if this round of balance of payments changes are caused by cyclical or exogenous shocks, then with the recovery of the global economy, this round of balance of payments adjustment may only be temporary.
In the future, the trend decline in China's current account will be difficult to shake. After the epidemic, the rebound and share expansion of China's trade in goods exports are only the first performance of China's economic recovery under the impact of the epidemic, while the narrowing of the savings-investment gap caused by the aging of the population, the decline in the surplus of trade in goods and the rise in the deficit in trade in services caused by the rise in per capita income, and the gradual appreciation of the real effective exchange rate of the renminbi will be structural factors in the direction of China's current account. Therefore, the narrowing or even turning of China's current account surplus into a deficit will be inevitable.
As China's capital account becomes more open, the volatility of China's short-term capital flows will further intensify. In the future, as China's private sector savings rate declines, once the pace of China's capital account opening is accelerated, the private sector will rely more heavily on riskier external funds for financing, and other investments will face more significant shocks or even large-scale net outflows. In times of turmoil in the international financial market, the phenomenon of domestic capital outflows and foreign capital withdrawals will even occur at the same time, which will exacerbate the volatility of China's short-term capital flows and even lead to the emergence of abnormal capital flows (emergency stops, surges, flights, returns).
There are great potential risks behind the changes and transformation of China's balance of payments. First, China's current account has turned from a surplus to a deficit, which means that in the future, China needs to rely on more external funds to achieve balance of payments, and the volatility of external funds is significantly higher than that of domestic funds, which means that the change of the current account will trigger more significant fluctuations in the price of domestic risk assets and the RMB exchange rate, and the monetary policy of the People's Bank of China is also facing more difficult trade-offs and trade-offs; second, if other investment items trigger an increase in the volatility of China's short-term capital flows and a significant expansion of the non-reserve financial account deficit, Then various internal and external shocks will pose more serious hidden dangers to China's financial system and domestic financial stability, and China's central bank will also face the lack of macro-prudential tools and the narrowing of monetary policy space.
For example, in the second half of 2021, will investor confidence be impacted by the reversal of the U.S.-China growth gap for the first time in years (i.e., China's YEAR-on-year GDP growth rate is significantly lower than that of the U.S. GDP growth rate year-on-year? Will China face a phenomenon in which sustained short-term capital outflows and rmb depreciation expectations reinforce each other? Will the large-scale outflow of funds from the north significantly impact the blue-chip leading stock and credit bond markets? These issues deserve the high attention of all parties in the market.
(The author Liu Yao is an assistant researcher at the Institute of Financial and Economic Strategy of the Chinese Academy of Social Sciences, and Zhang Ming is the deputy director of the Institute of Finance of the Chinese Academy of Social Sciences and the deputy director of the National Laboratory of Finance and Development)