THE WEEK AHEAD: China syndrome

If there is one country that is dominating our attention at present it is China. No matter what is being discussed – the Budget, sharemarket or mining sector – China is seen as a pivotal factor. And investors should get used to it, because if anything, the degree of attention will increase over time.

The simple fact is that China is both our major trading partner and number one export destination. Its huge population is getting wealthier by the day, buying more consumer goods and that means more demand for resources like metals, iron ore and coal.

Some believe that China is just a short-term phenomenon, but that’s not the case – it has just started down the same path of other countries like Japan and Korea. And while this poses opportunities for Australia, it also poses risks. The real challenge for Chinese policymakers at present is to keep inflation and property prices under control without slowing the economy too dramatically.

Could Chinese policymakers get it wrong? That is, could they either tighten policy too much or too little? Of course, it’s entirely possible. Note the situation here in Australia where former Reserve Bank officials believe that the current board has been too heavy-handed in lifting rates.

But policymakers earn their respect over time. The Reserve Bank has kept the Australian economy growing for 18 years, so they have the runs on the board. And Chinese policymakers also deserve a degree of respect for how they have managed the economy over the past couple of years, successfully navigating the US financial crisis as well as preventing their own economy from over-heating. And the Chinese policymakers have also been adept at using a range of tools to quell demand such as bank reserve requirements, suasion on bank lending, changes to lending policies and even increasing the supply of residential land to address rising property prices.

China’s policymakers are currently focussed on preventing a bubble developing in the property market and constraining inflationary pressures. They are also privately debating future moves for the currency – whether the trading band should be widened or the Yuan should be floated. But at the end of the day the policymakers will decide whatever is in the country’s interests.

From that point of view Australian investors shouldn’t be fearful if China tightens policy or makes changes to currency arrangements. Because whatever is in the interests of the Chinese economy is in Australia’s interests.

The week ahead

The coming week’s economic calendar is well populated with events, whether it be new economic data, Board minutes from the Reserve Bank or speeches from Treasury or Reserve Bank officials.

There are no stand-out events but certainly the release of minutes from the last Reserve Bank Board meeting will dominate attention early in the week. The Board minutes are published on Tuesday with analysts largely focussed on trying to gauge how comfortable the central bank is with current interest rate settings. The Statement of Monetary Policy indicated that interest rates are back to “normal” but it also flagged the possibility of cash rates lifting to 5% by year-end.

Also on Tuesday is the usual post-Budget address from Treasury Secretary Ken Henry. But as well as facing questions on the Budget, expect Henry to spend some time giving his thoughts on the resource super profits tax – especially given the fact that his Tax Review committee thought up the concept.

A couple of other speeches bear watching. The head of the Reserve Bank’s Financial Stability department gives a speech to a property conference also on Tuesday with assistant governor at the Reserve Bank, Malcolm Edey to give an address to a retail deposits conference on Wednesday.

In terms of economic data, lending finance figures are out on Monday, the focus being on any improvement in personal and business lending. On Wednesday, the labour price index will provide details on wage growth, while the consumer confidence index is released together with new data on imports. And on Thursday the average weekly earnings data will provide estimates on wages in dollar terms, showing how industries compare with one another.

In the US, the week kicks off with the regional Empire State survey on Monday and data on capital inflows. On Tuesday, figures on housing starts and producer prices are issued while data on consumer prices and the minutes of the last Federal Reserve meeting are issued on Wednesday. And on Thursday the leading index and influential Philadelphia Fed survey are released.

On balance the economic data doesn’t look like upsetting the apple cart. Core producer prices (excludes food and energy) probably rose just 0.1% in April after a 0.3% lift in March. Core consumer prices also probably rose by just 0.1%, keeping the annual rate low at 1.0%. Housing starts should have continued along the recovery path, lifting 2.5%. And the leading index probably rose by 0.2%, highlighting the broader improvement in the economy.


Most investors are probably asking themselves what could go wrong next. First it was the Greek debt crisis, then contagion fears for the rest of Europe. The European leaders tried to defuse that issue with the European Stabilisation Mechanism – and it seems to have worked for now. And there has been the oil spill in the Gulf of Mexico, the volcanic ash cloud across Europe, regulatory probe into Goldman Sachs and the proposed resource super profits tax in Australia.

Uncertainty is a major negative for investors, so recent events have served to keep buyers away while sellers have remained active. But the interesting result is that the Australian bourse appears to be suffering the most despite the fact that the only negative is the resource tax. Since the start of the year the US Dow Jones is up 4.5% with the Nasdaq up 6.9%. The German Dax is also up 3.8% over the period while the Japanese Nikkei is lower by 1.4% and UK FTSE has lost 0.5%. And here in Australia? Our All Ordinaries is down 5.8% while the ASX 200 has lost 6.1%.

Interest rates, currencies & commodities

The Aussie dollar started the year at just below US90 cents and it is currently just below US90 cents. That may seem remarkable, but that’s before you consider what has happened to other major currencies. In fact, most currencies haven’t drifted far away from where they started the year. Of the 120 currencies monitored, 97 have not risen or fallen by more than 5% against the greenback.

While the evidence suggests that the US dollar hasn’t budged much against major currencies, the US dollar index is up 9% over the year. So what gives? Well the US dollar index has been gaining ground against the Euro but not much else. In fact the Euro has fallen just over 13% in 2010, making it the fourth weakest currency behind the Hungarian forint, Bulgarian lev and Central African Republic franc, all with declines of around 14%.

The strongest currency in 2010 so far in the Malaysian ringgit, up 6.5% with the Mexican peso next best up 5.5%. Of the major currencies, the Japanese yen has eased 1% against the US dollar while the UK FTSE has lost 9% in response to political instability and geographical proximity to the woes in Europe.

Usually when the US dollar is doing well, the gold price is under pressure – but that hasn’t been the case this year. Gold has hit new record highs of US$1,243 an ounce, up 13% over 2010. Interestingly, however, gold isn’t the best performing commodity this year. That title belongs to nickel, up 22%, while cotton has also gained 13% over 2010.

Craig James is chief economist at CommSec.


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