All Things China

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Bipan Rai: Welcome, everyone, to this third edition of The FX Factor podcast, which, as we mentioned in our last podcast, is now available on iTunes, Spotify and Google. So don’t forget to hit that subscribe button. On this podcast what we’re trying to do is go a bit more in depth on important macro issues for our audience that might not be familiar with things and then bring them back home to our in-house FX views. For today, we’ve got a special guest all the way from Hong Kong. It’s our Asia Strategist, Patrick Bennett, who I’ve worked with for several years now and is the expert on all things China here at CIBC Patrick, how are you?

Patrick Bennett: Yeah, well, thank you. Thanks for the invite. So great to join you on this today.

Bipan Rai: Excellent. So we’re excited to have you on. Again, it’s perfect timing as well since we had our annual parliamentary meeting, I guess you can call it in China. What was the major takeaway from the two sessions last week that you saw?

Patrick Bennett: Yeah, good point. Here, the two sessions, or China’s parliament happens once a year. It was an important one this year. It’s the centenary of the Chinese Communist Party, which has some relevance. Also the start of the new five year plan. So probably a little bit more detailed this year than we got say in the intervening years. They talked a lot about balancing between the internal and external economies, talking about greater integration, greater balanced growth. A few things China’s talked about it for some time has been a striving for quality over quantity. I think we used to use a little comic strip of the panda on a treadmill trying to work out, become more leaner and focus on the quality. It really sticks out – China’s all about planning. Nothing really revolutionary. They set a GDP target for this year as it normally did. Not a great deal that that wasn’t already known.

Bipan Rai: And that GDP target – remind me again, I should know this. What was it again?

Patrick Bennett: Well, yes. Last year that didn’t set one because of the destruction from Covid. This year they set one at above six percent, which in the way, not in a way, was actually quite low. Expectations out there are running at, say, eight or even nine percent, which would be an incredible result for the implications of saying sitting at just above six per cent, the implications that would create some other officials if perhaps they revised their strategy to deliver the economy, you know, which means to cut down on some of the expansion of credit. As we know and as we’ve spoken about, those goals are just not complimentary. You cannot boost growth and deliver at the same time. So perhaps that using the fact that growth is going to be well above six percent to maybe step on the brakes a little bit. And that’s something we’re going to have to watch in the next few months. The latest credit data that we saw was only for February and that that was actually quite strong.

Bipan Rai: Ok, and when you talk about deleveraging, is there any particular sector that the administrators in China are particularly worried about?

Patrick Bennett: I think it comes down to probably the local government. We think back to 2008, 2009, and post that period, there was a lot of lending to local governments to build infrastructure, build schools, the roads, those sorts of things, which I don’t really have a general return on them. So, yes, some of the budget to build up is in that assuming the corporate sector, because if we look at Chinese debt overall, it actually compares reasonably favourably with other economies, whereas other economies are lower. Debt can be in the government or the private sector in China. There’s not much in either of those, but it’s all in the in the corporate sector.

Bipan Rai: Right. OK, and with respect to the GDP target of just above six percent, I notice that they’re moving away from specifying a particular target and moving towards a range. Do you think that’s achievable? I mean, you’re talking about 15, 16 trillion dollar economy. I mean, do you think they could achieve that or is that something that they’re kind of going to try and use going forward?

Patrick Bennett: Look, I think they can achieve and I think there’s a lot of juice in the economy at the moment. It’s a pretty incredible result is that I think there’s been a lot of comments for many years. How long can this be sustained? And I guess it’s get down to this question, is China still acting like you, an emerging markets to give orders to get? Has it got the means to to boost GDP or the two key inputs that they do have is they have labour and they have productivity. Right now, they’re looking to move up the value chain and a lot of different areas. So that’s going to help boost the productivity of output in the economy. So I think that can continue apace. But now, certainly if we were looking further outside five to 10 years, I think we’re going to be looking at a more moderate level than we’re at at this stage.

Bipan Rai: And when you’re talking about moving up the value chain, are there any particular sectors that they’re targeting? I understand it’s manufacturing, but is it more aerospace?

Patrick Bennett: I electric vehicles is one green energy block chain. What they really want to do is they want to become technologically independent. That’s not an easy thing. And China had this goal of 20, 25, you know, China twenty, twenty five when they wanted to be leaders in a number of these sectors. And that was sort of well, that was not shorthorns. That was really put under pressure by the Trump administration when they were talking about this theft of intellectual property and the assumption of planning for businesses as well as the let’s we put on the backburner. I think they still have that ambition, but we haven’t actually heard of that. Recently.

Bipan Rai: Ok, excellent. What do I switch gears a little bit and talk up a little bit about the US China relationship and how that’s expected to develop under Biden today? We’re supposed to have this important meeting in Alaska. I mean, how do you envisage that relationship developing now under the Biden administration? How’s it going to be different than what we saw Trump?

Patrick Bennett: Well, I hope that well, I think we all hope that it might be conducted on a more, let’s say, statesman like fashion. I don’t think the hawkishness is gone away or will go away. I think the hawkishness was across the political divide. And I think that’s really been strengthened over the last couple of years. So I think dialogue is good. I think China is beginning to concede some points. Let’s see how it goes from this point. But I think it’s still a cautionary flag and we’re not going to see some unwinding of tariffs yet.

Bipan Rai: So no unwind. But I mean, do you expect any sort of escalation on that front?

Patrick Bennett: I don’t think so, because I’m not convinced that it was really to a great benefit to the US. They were for the farming sector as well. But if we did, it’s another way to collect some taxes and thought the discussions about that in the US at the moment. But we’ll just look on a trade front in particular. I don’t think it’s had much impact in insisting on trade as well. For all its talk about China being an export led economy and exporter and not a contributor, well, not more than one or two percentage points to GDP and exports around, what, 18 percent of GDP exports in the US, what, 12 percent? Yeah, yeah. Sometimes I think that gets overstated a little bit.

Bipan Rai: Yeah, absolutely. Even on this side of the pond, we continually hear about the China can really manage a stronger currency because it’s going to affect the export sector. I mean, there’s still that view that it’s the economy structured in the old way, really export dependent. Whereas I notice that you’ve also spoken at length over the past couple of years about how it’s shifting into a different framework. I mean, can you expand on that a little bit?

Patrick Bennett: Yeah, that’s right. Look, one of the cornerstones of this current five year plan and they announced some of the broad framework back in November last year, is this concept of dual circulation that China looks to have a lot of young mnemonics and little phrases to describe what’s going on on the basis of that is, is to not focus solely on the external circulation, which means you and the external sector or the export sector to focus more on the internal or more to have a balance between those. So going to become more independent science technology as well as a complete value change in some products as well. So I think that means getting some surety for themselves on imports of industrial commodities and the like, the more emphasis on the Internet that we haveIn the moment.

Bipan Rai: Right, right. So really more of a consumption led model that we’ve kind of seen in some of the more developed economies. Yeah, that’s several.

Patrick Bennett: Yeah, look, that’s right. And that’s been a criticism of China for a long time. Well, to switch sides to that coin, right, about 15 years ago, the global economy was saying, look, China has to unleash its savings and spend more. And then you look at some of those savings we released by cutting it required reserve ratios and then that money was lent out. So it wasn’t that again, that’s what the debt built up there. It wasn’t just a government debt. And so now that triggered more spending, urbanisation strongly into that. China has gone from what is, I think, 20 per cent to population urban areas back in 1980 to around 60 per cent now as I speak live into the cities that will require, you know, services and the infrastructure for that as well. So I think that helps with consumption question.

Bipan Rai: Yeah, absolutely. And I think you could probably pick on a few developed market economies as being more guilty of relying on the old export driven model and really tapping into savings in China at this point, I think it’s changed a little bit. So, again, switching up things a little bit when we talk about China, we’re really trying to get a sense of investing in China. You know, a lot of our audience that too familiar with how to invest in China. What are the current ways you think foreigners can do so?

Patrick Bennett: Yeah, look, it’s it’s been a thing for for many years. People say, well, look, I, I can see this economy growing and how do I get exposure to it? A lot of avenues opened up in the last two years, shares or MSCI and this is the stock and bond connect out of here that goes to Asia stock. And it goes both ways. But it’s the numbers. About 100 billion yuan a day is available to you to send northward about 80 billion to DMSO. They’re not they don’t reach such numbers. And yet there’s money going backwards and forwards or that’s one avenue, the currency being an avenue, of course, that the sea and the offshore currency into bonds issued. So, you know, bonds issued in. Yep. In Hong Kong and then issued and in other cities as well in Toronto and London as well. And Singapore have their own and offshore centres. So that’s the way to get exposure. And I think in the early days we saw a lot of buying of the bonds because we were trying to access appreciation in the currency. Right. So and so perhaps a yield on that bonds didn’t really reflect the risk in any meaningful fashion, but that’s another way that exposure could come in. China is opening up its capital account, although it’s quite slow. We yet I mean.

Bipan Rai: In the in the coming years, do you ever see it becoming, as you say, capital mobile as the US like where we had this sort of shift towards a true free capital mobility across its borders model?

Patrick Bennett: Yeah, look, I think that’s going to take a very long time. It’s a question that I not loath to put a forecast on, but I think we’ve been talking for a number of years. And similarly, I was twenty, twenty one near the centenary of the Chinese Communist Party. I was at an appropriate time to have that, so. Sort of always trying to put a peg in the ground somewhere and you get up to it pretty quickly, so I think that we’re going to see further steps along that path. But I don’t think they’re rushing towards that. I think is a good argument or a good case to be made when trying. China started the re-evaluation of the yuan back in 2005, that if the capital cannot be opened, then then more money was probably looking to go out and come in. I think that’s changed over time. And what we say about the currency is that Chinese policy, we believe, is geared towards finding a balance of supply and demand and is a big demand. In the last few years, we’ve seen that in their numbers. The supply side is there and I think that there will be more as the currency continues to stay strong and stable. And I think for some banks like ourselves and others out there, I think that’s going to be the new avenues of opportunity side in the next five to 10 years as being able to assist clients to they’re looking to invest both in to offshore and offshore.

Bipan Rai: Right. And so that’s a great segue into another point that frequently gets brought up. Talking about the yuan is international reserves and the degree to which the yuan might replace the dollar one day. I mean, we can’t really happen until we get the same degree of capital mobility, really, in my view. But in your view, how do you think this internationalisation of the council will work moving forward? And is that something that could happen?

Patrick Bennett: Look, I think it can happen in interesting numbers. This morning was pointing out our time, the swift numbers, the swift payment were denominated in yuan in February. Now, it’s not a great shape. Just over two per cent, they were two point four percent in January. And now that’s not much when we have the dollar and euro taking up about 70 percent top rate, it is now outpacing currencies like the Canadian dollar, the Australian dollar and the Swiss are now. So it’s a very slow process. I think one of the ways towards that is China looking to denominate more of the trade in the local currency in the yuan. We’re already seeing some futures contract in China denominated yuan and other commodities. So it’s a process which is going to take some time. But I think you’ve got a long way to go from where we are now. Taking over the dominance of the dollar is probably not in the horizon that I can see.

Bipan Rai: Yeah, absolutely. I mean, I always bring up the analogy that we’re talking about the search engines and comparing them to currencies. The dollar is basically Google right now, and it’s really hard to do that now.

Patrick Bennett: But yeah, that’s right. It’s a long way to go. And that can be good and bad, can be good in the fact that there is a long way to go off that because less positive because it’s going to take some time to get.

Bipan Rai: Yeah, absolutely. And I mean, in that sort of world, we are seeing some degree of decay when it comes to the dollar as a reserve currency. I do think that there is some downside. So going forward, I mean, can China become the Yahoo! Yeah, absolutely. I mean, to your point, it’s going to take some time and it’s not something that’s to rely on the old framework of really just picturing one dominant reserve currency. I really do think it’s going to be more of a multipolar world to see. And we’ll have an important part to play in that, right?

Patrick Bennett: Yeah, look, that’s right. I think that the way to put it now that this multipolar world and we’re going to see that and I guess we’ve seen a little bit in trade as well. We’re getting, you know, different sort of different sort of pockets. So it’s as mentioned by yourself and others, you know, the globalisation perhaps it has happened a bit, but China’s emergence or China’s emergence is going to keep it on the radar for sure. And people are going to start to and they have already to start to build bridges if it takes some time.

Bipan Rai: Yeah. And when they do sort of internationalise the renminbi, are they going to stick with the offshoring or are they going to convert everything to the onshore? Right. Like how is that going to be reconciled?

Patrick Bennett: Yeah, look, at the moment it trades reasonably closely. But as it always might be aware, there is some divergence. There is sometimes some arbitrage opportunities for institutions or businesses that have onshore and offshore representation. But eventually the offshore decision will be phased out. Does it happen just at one number on one day? Like I said, I think that would be likely. I would imagine we would have a crisis like we had with the euro in nineteen ninety nine, that we have some bilateral commission rates and perhaps I go get set that at one point in the future as well. So yeah, at the moment as we know, it’s a currency, one is deliverable offshore and one is not, but there’s no currencies not holding notes or to see, you know, but I guess following those are becoming a rarity in many economies now.

Bipan Rai: Right, exactly. So now for your thoughts on the currency. I mean, what are you expecting for the renminbi over the coming year?

Patrick Bennett: Look, I think ever since we’ve been together, I think that my my view has been towards a positive counting up. I think I’ve been 27 years in Asia now, which is dating me a little bit. But look, I’ve always looked at you look at China as a well. It’s been an emerging economy, an emerging currency. Maybe it’s now emerging, maybe it’s not yet not yet developed. And we’ve talked about this as well before, that emerging currencies tend to trend towards strength and weakness. And once they become developed, they become cyclical. I don’t think we’re at that point yet for the currency I. Do do think that there’s a way to go for the country to to appreciate further from here and to say perhaps why that hasn’t happened as yet? I believe there’s always been or there still remain a bit of a risk premium when it comes to China. And we know that Chinese growth has been outpacing growth in all other major economies of this year. That might get squeezed a little bit. But the risk premium that’s been associated with that one about how do you get exposure to how can you guarantee that you can get your money both in and out to have held it back? So I think as the capital account is as open, as more avenues are available for investment inward and outward. And I think that people will I think investors will be looking to access that and that that GDP premium that’s there. And so the risk premium is unwound. So, you know, I remain positive from this point forward. And I think we can trade on a five handle sometime in the middle of next year, has a nice ring to it, to me. But I think at that point that we might start to see that, you know, Chinese domestic savings and investments that say we’re looking at currencies quite strong. Let’s look at some moving into some massive offshore assets. Right.

Bipan Rai: Ok, so basically a move towards a five handle, then we’ll reassess at that point.

Patrick Bennett: Is that going to take a guess? I think I think we have 590 in the second quarter of next year. And I think at that point we can still see some appreciation. But I would expect it would become more sort of a two way market, know this idea of a more cyclical market from that point. But I think it’s still up to that point, the outperformance of the economy. And again, notwithstanding that some of that might get squeezed this year still leaves China, the currency in a good spot.

Bipan Rai: And are there any other currencies in the region that you’re constructive on a

Patrick Bennett: Luxury area like Taiwan? They’re both, to my thinking, they’re both procyclical to global growth. And we certainly look to be in that mode at the moment, aren’t we? So like Taiwan and Korea, Taiwan has strengthened quite considerably, probably. I think Taiwan outpaced Chinese growth the last year, probably the high batur in the region that we’ve seen some unwinding. We’ve seen some unwinding of some dollar Asia positions as the interest differential has been squeezed between developed markets and in Asia. And on the other side, a couple of that, India, Indonesia, not so constructive, but they do offer yield. And I think there is always some demand at a level that’s excellent.

Bipan Rai: We covered a lot of ground here. Patrick, thank you so very much for joining us today. This is very, very informative. And again, for those of you listening, please don’t forget to hit the subscribe button. And we hope you enjoy your day. Thank you for joining us. Thanks.

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