14 November 2019
China's market rescue depends on an improved economic picture and stronger corporate earnings which are nowhere in sight. Photo: CNSA
China's market rescue depends on an improved economic picture and stronger corporate earnings which are nowhere in sight. Photo: CNSA

Why a September US rate liftoff is a fading hope

China’s central bank made a double-barrelled move to boost market liquidity last week.

It came as a US economic rebound remained mixed.

Improvements in the labor market and a modest recovery in the housing market have bolstered a US economic recovery while low inflation and mounting global market risks have reduced expectations for a rate hike in September.

In fact, most of the trouble stemmed from China.

In the past six months, Beijing has been trying to stimulate demand with fiscal measures which have failed to offset contraction in internal consumption.

Meanwhile, Chinese exports have not benefited from improving global demand due to high labor costs and a strong yuan.

Beijing must cut interest rates and reduce the reserve requirement ratio for commercial banks given a gloomy economic outlook.

However, the latest attempt to shore up market liquidity may not be enough.

Market participants have priced in the move given sharp volatility in A shares.

The market rescue depends on an improved economic picture and stronger corporate earnings which are nowhere in sight.

Last week, global equity markets suffered their worst performance since the 2008 financial crisis.

The situation today  is quite similar to the 2008 financial crisis but more like the 1997 Asian financial crisis.

The 2008 financial crisis was a simultaneous market meltdown worldwide.

By contrast, many counties experienced different economic cycles in the 1990s. Expectations of a US rate hike triggered capital flow and plunged global markets into a trough.

It also started with currency depreciation in Asia that rippled across global markets.

However, it’s widely believed that there is little chance of another 2008 financial crisis or a 1997 Asian financial storm.

Emerging economies have seen their foreign debt fall as a percentage of gross domestic product after learning from these two financial upheavals. 

Market shock will be much muted this time.

Easy monetary policy rather than company fundamentals has been the main driving force behind global markets in the past seven years.

Earnings per share in the US dropped 5.3 percent in the second quarter from the previous year and were down 3.1 percent in Europe and 5.8 percent in emerging markets but up 15.8 percent in Japan.

In short, excessive liquidity has resulted in whopping gains this year.

The stock market has overdrawn its future growth potential as a result of monetary easing over past few years.

In fact, most US stocks have run out of steam apart from a few outperforming plays.

We should not ignore the China impact on the US market, particularly on large multinational companies and US-listed Chinese companies.

China’s macroeconomic fundamentals and company earnings bear watching.

For many multinationals, China is a profit center but the abrupt yuan devaluation and gloomy economic growth are set to weigh on company earnings.

In order to stem further contagion, global central banks should act swiftly to buy assets.

If that fails, they have to think about fresh easing measures.

Three US benchmarks have soared nearly three times over the course of three quantitative easing programs in the past six years.

And Japan’s Nikkei index has been rising, topping 20,000 points thanks to policy easing.

However, it’s unlikely the US will unveil further monetary easing as the US market has reached a tipping point.

The unemployment rate is expected to fall below 5 percent by the end of the year, below the 6.5 percent target.

At the same time, the macroeconomy is set to continue improving. The US Federal Reserve may hike interest rates this year despite cooling expectations for a September liftoff.

The Fed may postpone a rate hike given the one-off 3 percent devaluation of the renminbi but that does not mean there will be another QE. 

Conditions for a rate increase are approaching but not at hand, according to the minutes of the most recent Federal Reserve meeting.

It’s quite likely a lift-off will occur in December as indicated by the Fed funds rate.

This article appeared in the Hong Kong Economic Journal on Aug. 31.

Translation by Julie Zhu

[Chinese version中文版]

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Senior investment banker