Bloomberg.- While the world’s attention has been gripped by politics in the U.S. and Europe in recent weeks, China has been quietly cementing its newfound influence on financial markets.
In a week when U.S. Federal Reserve officials surprised investors by putting an interest-rate hike on the table for the March 14-15 policy meeting, emerging markets have taken those signals in stride. That’s a big change from May 2013, when the prospect of tapering the Fed’s quantitative easing saw a disorderly exodus of capital from those markets.
So what’s changed? This time around, China is offering markets an anchor — both in its stable growth and greater policy clarity. As chances of a Fed increase in March climb, emerging-market stocks and bonds have avoided a sell-off. Case in point: equities from South Korea to Malaysia rallied Thursday even after one of the Fed’s biggest skeptics about the global economy’s strength signaled the U.S. may be strong enough to withstand tightening soon.
“The resilience of China that we’ve seen in terms of the growth data has reassured emerging-market investors that the emerging economies can weather a rate hike by the Fed,” said Rob Subbaraman, chief economist for Asia excluding Japan at Nomura Holdings Inc. in Singapore. “It would be a very different story if China was slowing.” The turn in commodities, partly driven by China but also by oil diplomacy, has also offered support, he said.
China’s stability itself may play a role in an accelerated schedule of Fed rate increases — look no further than the Wednesday speech by board member Lael Brainard. Chinese policy makers’ actions “appear to have stabilized growth and calmed fears of financial instability stemming from a sudden large devaluation in the renminbi,” Brainard said in a speech that predicted “it will likely be appropriate soon” to raise the U.S. benchmark rate again.
China’s economic stability, further confirmed with a strong manufacturing purchasing manager index report on Wednesday, has also allowed the People’s Bank of China to shift gears from stimulus to liquidity-tightening mode.
That has in turn given support for a yuan that had been pummeled in 2015 and 2016 by capital outflows. Worries over China’s exchange-rate intentions back then had ripple effects across global markets, with Fed Chair Janet Yellen in September 2015 citing concerns about Chinese policy-making in delaying a rate increase. Renewed upheaval in January 2016 served as a backdrop to a Fed decision to hold off on a hike.
“Given Beijing’s determination to protect economic growth even at the expense of suspended structural reforms, it seems likely that China won’t be a major source of volatility for the world this year,” said Stephen Jen, London-based chief executive of hedge fund Eurizon SLJ Capital Ltd. A longtime bear on emerging markets, Jen said that the backdrop for them 2017 “may be more benign” than he previously thought, thanks to China.
“The Fed, in addition to its historic focus on unemployment and inflation in the U.S., is factoring in volatility in global markets,” said Thomas Finke, chairman and chief executive officer at Charlotte, North Carolina-based Barings LLC, which oversees more than $271 billion. Regarding China, “the fears that it was decelerating faster may be less than a year ago,” Finke said on Bloomberg Television.
How long the stability in markets — especially in the emerging economies that have historically been vulnerable to capital outflows when U.S. rates rise — can last may continue to rely on China. And the outlook there could always change.
As Brainard herself alluded to, Chinese authorities continue to grapple with addressing a debt pile that has ballooned to more than 260 percent of the economy’s size. Capital controls have been needed to curb money outflows, and the yuan could still be tested once more by a strengthening dollar should the Fed turn more hawkish than markets currently bet.
“While an imminent crisis is not very likely, these issues do reflect serious structural problems, which have seen little improvement in this cyclical upturn,” said Larry Hu, head of China economics at Macquarie Securities Ltd. in Hong Kong.
Another wild card is President Donald Trump’s moves toward trade protectionism. But while Trump and the Fed may dominate the headlines, developments in China could prove more influential for developing economies and their stocks, bonds and currencies.
“It is the linchpin,” Subbaraman said of China. “For emerging markets, we can enjoy the party now, but we’ve got to stay close to the door” while assessing the situation in China, he said. “Growth is looking stable there now. But there are fragilities.”
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