The mainland authorities are nervous, too. Yesterday, the State Council pledged to crack down on overheating property markets, declaring “some cities are seeing excessively fast housing price rises, and we should pay high attention to this”.
Despite the fighting talk, however, it is doubtful whether officials either in Hong Kong or on the mainland will muster the courage needed to pop any developing bubbles, at least in the near term.
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Few can muster the political courage to pop an asset bubble
Tom Holland
15 December 2009
Norman Chan Tak-lam is a worried man. Yesterday, the Hong Kong Monetary Authority boss warned again about the dangers posed by frothy markets, saying: “I believe asset price bubbles, rather than inflation, pose the greatest risk to financial stability.”
The mainland authorities are nervous, too. Yesterday, the State Council pledged to crack down on overheating property markets, declaring “some cities are seeing excessively fast housing price rises, and we should pay high attention to this”.
Despite the fighting talk, however, it is doubtful whether officials either in Hong Kong or on the mainland will muster the courage needed to pop any developing bubbles, at least in the near term.
In Hong Kong, there is little Chan or the HKMA can do to cool asset prices anyway. Our currency peg to the US dollar means we have to follow US monetary policy, even if American interest rates are far too low, or too high, for our own point on the business cycle. We learned that during the 1990s, when low rates in the early years of the decade helped inflate the property market bubble, and high rates later on exacerbated the subsequent asset price deflation.
With the majority of forecasters now predicting that US interest rates are going to remain low throughout 2010, Chan is afraid that a new property bubble will emerge in Hong Kong. Without the power to raise interest rates, however, there is little the HKMA can do to pedal against the cycle. And short of repeating former chief executive Tung Chee-hwa’s disastrous 1997 pledge to build 85,000 new flats a year, it is not clear there is much that the government can do either.
On the mainland, it is a different matter. There, the authorities have far more powerful policy levers at their disposal. The question is whether they are prepared to pull them.
The risk of bubbles is just as great as, if not greater than, in Hong Kong. In the past 12 months, Chinese banks have extended just short of 10 trillion yuan (HK$11.3 trillion) in new loans, equal to 30 per cent of 2008’s gross domestic product.
Such a massive credit expansion has spurred demand and boosted growth rates to an impressive level. But it has also pushed up prices. The mainland’s consumer price index rose 0.6 per cent over the 12 months to November. That might sound like a small increase, but it was the first price rise since January and represents a significant turnaround from deflation of 0.5 per cent in October. Analysts now expect further price rises over the coming months, with Peng Wensheng, head of China research at Barclays Capital, forecasting the consumer inflation rate will climb to 4 per cent in the second half of next year.
That will confront the authorities with a dilemma. As the first chart shows, with China’s one-year savings rate on household deposits currently at 2.25 per cent, last month’s return to inflation has already sharply reduced the real return available to ordinary people on their bank savings deposits.
If inflation continues to rise as Peng predicts, and the central bank fails to raise interest rates, the real inflation-adjusted deposit rate will turn negative towards the middle of next year.
When that happens, Chinese depositors don’t sit around doing nothing. They take their money out of the bank and use it to buy real assets like stocks and property, inflating massive bubbles. As the second chart shows, the stock market boom of 2007 was clearly fuelled by negative deposit rates.
The obvious answer would be for the central bank to raise interest rates to keep the return on savings deposits in positive real territory. But with government-sponsored stimulus projects still requiring trillions of yuan in new loans next year, the authorities will be extremely reluctant to raise lending rates. And with bank capital adequacy ratios severely diminished by this year’s lending spree, they will be just as unwilling to eat into bank profit margins by raising deposit rates while leaving lending rates where they are.
As a result, although we can expect a raft of measures intended to cool asset prices over the coming months, the mainland authorities are unlikely to bite the bullet and increase interest rates until it is clear dangerous asset bubbles are already inflating. By that time, they will be too late.
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