Juggling Dynamite

“Concerns about China’s economy intensified Thursday after a private measure of manufacturing came in at its lowest level in nine months. The HSBC/Markit flash China PMI survey also featured a steep drop in new export orders, indicating China is suffering from global weakness, notably in Europe.

Even more troubling is a sharp rise in interbank lending rates, suggesting Chinese banks are becoming wary about lending to each other. If you recall, the crisis of 2008 reached its apex when banks stopped lending to each other and fears of “counterparty risk” were manifest. Chinese interbank lending rates aren’t at extreme levels yet but could get there in a hurry if they continue to rise in such dramatic fashion.

According to Bloomberg, the seven-day repurchase rate rose to 10.77% overnight, its highest level since March 2003 while the one-day rate rose “by an unprecedented 527 basis points to an all-time high of 12.85%,” and intraday rates hit a record 30%.”

Here is a direct video link.

The Chinese government seems to have shifted tactics in its support for lenders. Over the past 2 weeks, they have refused to inject more funds into the banking system despite a near tripling of short term money market rates as an over-levered system of bad-loans gasps for liquidity. Bankers and other investors have been begging for more bailouts, but so far the government has refused, apparently intent on correcting a culture of reckless behavior that has flourished since government liquidity injections began in 2008. This is new thinking indeed. Maybe other central banks are ready to follow suit? See: Echoes of Mao in China cash crunch

The business media is clamoring to post headlines designed to talk capital flows back into risk markets this morning. So far it is not working. It is not that economic news has suddenly become dramatically worse. The global economy has been weakening for the past three years, and pretty dramatically over the past 10 months. The problem is that undue faith in the magic of central bankers has encouraged many to whistle past the graveyard of contracting world demand. The gaping disconnect between stock prices and economic reality, has now set markets up for a period of profound disappointment. All best case scenarios have been fully priced in. And by best case, risk traders mean increasing monetary stimulus for evermore. Now anything less than best case is disappointing–the plight of over-promising.