At two o'clock in the morning Beijing time on Thursday (November 4), the Federal Reserve announced a schedule for balance sheet reduction with a high probability, and the interest rate hike may be shortly after the end of the balance sheet reduction in the middle of next year.
For now, inflation is not temporary, and central banks around the world are forced to act. But the momentum of the recovery has also slowed, so the biggest challenge is how to tighten policy without disrupting the hard-won economic recovery, especially as the Fed is expected to raise interest rates after next summer, which will be a significant slowdown.
Although China's monetary policy is "predominantly self-contained", the risk of stagflation, which is commonly faced around the world, undoubtedly affects the Chinese market. Meng Lei, a strategic analyst at UBS Securities, told reporters that the latest disclosed results of the three quarterly reports show that the profit of the third quarter showed negative growth in the single quarter, and the profits of all A-share and non-financial sector companies fell by 1% and 6% respectively year-on-year, which was lower than market expectations. From the perspective of different industries, the single-quarter profit growth rate of the middle and upstream materials industry has slowed down significantly year-on-year, and many downstream industries have negative profit growth under cost pressure.
A rate hike after the balance sheet reduction is not far away
After the epidemic, the United States launched a large-scale stimulus, and Congress regarded the fiscal stimulus as a post-epidemic bailout rather than a general demand stimulus policy, so the scale of the stimulus policy was also very large, 5 to 6 times the scale of the fiscal stimulus after the global financial crisis, which drove up inflation while driving demand. The epidemic has led to bottlenecks in the supply chain, exacerbating the imbalance between supply and demand.
"The Fed wants inflation to exceed 2%, but now the excess seems to be too large, with the U.S. core CPI up 4% year-on-year in September and the overall CPI up 5.4% year-on-year, so it's hard to say that inflation is temporary." City Index senior analyst Joe Perry told reporters.
Perry said the Fed currently buys $80 billion in Treasuries and $40 billion in mortgage-backed securities every month. Fed Chairman Jerome Powell hinted at a news conference after the September meeting that the contraction in bond purchases should end by mid-2022. One option could be to reduce the monthly purchases of Treasuries and MBS by $10 billion and $5 billion, respectively. If the Fed starts shrinking its balance sheet in December at this pace, it should officially end before the end of July 2022. Also keep an eye out for signals of when the Fed may start raising interest rates later.
Powell has said that unlike the balance sheet reduction, the standard for raising interest rates is much stricter, but in fact, the market predicts interest rate hikes much earlier than the central bank itself. For example, the market expects the Fed to raise interest rates twice by the end of 2022 totaling 50bp, but the Fed believes that the rate hike will not be until early 2023.
Central banks face challenges under the pressure of global stagflation
In fact, the Fed has fallen behind, many central banks have already raised interest rates by surprise, and inflationary pressures exceeding expectations are the biggest concerns.
The Bank of Canada recently abruptly announced the end of qe (quantitative easing) and hinted that interest rate hikes will begin in April next year, and the market has begun to expect it to raise rates four times in 2022. The economies of Canada and the United States are highly correlated, resulting in a high degree of alignment in the long-term trend of goods market policies. But the Bank of Canada is characterized by "holding back" and always rushing before the Fed makes a move.
Ostensibly, the Reason given by the Bank of Canada is the threat of inflation, arguing that inflation will exceed the central bank's upper limit longer than expected, and there is even a risk of continuing to rise, with inflation reaching 4.8% in the fourth quarter of this year. Housing price pressures are particularly high, with the national average house price soaring 30% higher than before the pandemic, and the country has the lowest population density in the world. If you look at popular cities, it is not uncommon for a 100% increase in more than a year.
In the case of the United States, high oil prices may not be as stressful as the pressure on inflation brought about by the housing market. The largest weight of the US CPI is the accelerating upward trend of rent and its equivalents (33%) and is likely to reach a year-on-year increase of 4% to 4.5% in mid-2022. There are several reasons for the pressure to increase prices: many annual leases have expired and begun to renew according to new market conditions; people who have hidden home because of the epidemic have begun to return to the rental market, and the vacancy rate of houses has dropped significantly; and the price of the residential market has also risen.
Concerns about "stagflation" have risen and become the world's hot search term. Stagflation refers to an economic environment characterized by stagnant growth and high inflation, the most famous case in history is the stagnation of Western countries caused by the oil crisis in the 1970s. Despite the Fed's focus on full employment and neglect of "temporary inflation," next year could be the most stressful for the central bank.
Perry told reporters that on the one hand, the Fed needs to prove to the market that the current inflation of nearly 5% can gradually return to 2%, otherwise the credibility of the central bank may be affected. On the other hand, next summer's interest rate hike may be a time of greater pressure to slow down, so how to weigh it is also a big challenge.
Pressure on rising prices has led to a slowdown in corporate earnings
The impact of global price increase pressure on A-share enterprises is gradually reflected, such as copper, crude oil and other overseas pricing varieties of soaring prices, lithium, silicon and other upstream shortage of industrial products prices have also repeatedly reached new highs, "energy consumption double control", before the coal price once rose sharply, which also led to China's ppi remaining high, September ppi rose 10.7% year-on-year, hitting a new high in 25 years.
Agencies believe that the price pressure in the fourth quarter may still be difficult to alleviate in the short term. "CPI may rise in October due to a sharp rise in vegetable prices, a bottoming out in pork prices, and higher prices for fuel, services and industrial consumer goods. We expect ppi inflation to continue to soar in October due to sharp increases in oil and gas and coal prices. Ding Shuang, chief economist of Standard Chartered Greater China and North Asia, told reporters.
The growth momentum of A-share operating income has slowed down significantly, mainly due to macroeconomic pressures and base effects in the third quarter. Meng Lei told reporters that the overall operating income of more than 4,500 A-share listed companies increased by 23% year-on-year in the first three quarters of 2021, and increased by 27% year-on-year after excluding financial stocks. However, the revenue growth rate of all A-share companies in the third quarter was only 16%, down from 32% and 23% in the first and second quarters. The single-quarter gross profit margin of non-financial A-share companies in the third quarter was only 17.8%, the lowest level since the second half of 2013. This shows that the quality of corporate earnings has been significantly impacted in the context of a sharp rise in upstream prices, but in the context of weak macro demand that prevents price pressure from being transmitted downstream.
"In recent months, industrial production has been affected by unfavorable factors such as commodities and energy, corporate profits have deteriorated, profits have been concentrated in upstream raw material enterprises, and the profits of middle and downstream enterprises have continued to be under pressure." The two-year average growth rate of total profits of industrial enterprises above designated size also fell from 22% in April to 14.6% in August, and further fell to 13.3% in September. Wu Zhaoyin, director of macro strategy of AVIC Trust, told reporters.
However, he believes that a series of recent policies are expected to gradually ease price pressures in the future. For example, in response to the problem of the soaring price of coal commodities in the early stage, the government tried every means to expand the energy supply, and the daily coal output in mid-October has exceeded 11.5 million tons, and industrial production has basically got rid of the adverse effects of "power curtailment and production limitation". At the same time, the National Development and Reform Commission studied "implementing intervention measures for coal prices according to law", black commodity futures "sudden death", and the high point of the main thermal coal contract. The sharp adjustment in the price of commodities such as coal has helped to promote the downward trend of PPI and also help promote industrial production.
In the context of some downward pressure on economic growth, institutions do not believe that the Central Bank of China will follow the Fed to tighten its policies. China's PMI fell to 49.2 in October, down from 49.6 in September and the lowest level since the outbreak began in early 2020.
Lu Ting, chief economist of Nomura China, told reporters, "It is expected that China's exports may peak in the future, and strict epidemic prevention measures may continue to put pressure on household consumption and service industries." Environmental measures will also add downward pressure on economic growth in the fourth quarter and the first quarter of next year. He expects that before the end of the year, the economy may receive certain monetary and fiscal policy support, and ensure the supply of coal and electricity, and moderately relax restrictions on some real estate in a limited space.
There is still a big disagreement about whether the Central Bank of China will cut the RRR, and the fiscal force has become a consensus. Data show that in the first three quarters, only 2,216.7 billion yuan of new special bonds were issued, and the progress was only 61%, far lower than the same period in previous years. The Ministry of Finance hopes that "the new special bond quota will be issued as much as possible by the end of November", which the agency believes means that 1.45 trillion yuan will be issued intensively in October and November, which will strongly support infrastructure investment.