Russia Succeeds In Claiming Crimea; Chinese Exports Slump Link To Renminbi Carry Trade
COLUMNS, DR CHAN YAN CHONG | 21 MARCH 2014
When the situation in Ukraine took a turn for the worse two weeks ago, I wrote in this publication that the US would not send in its forces into Ukraine just because Crimea is fighting for independence. Ukraine is highly dependent on Russian fuel and is also a poor country that is in no condition to go up against Russia. Furthermore, it is unlikely for the US and Western countries to impose punitive sanctions against Russia, so all that they will do is to introduce some innocuous sanctions.
Unfortunately, the stock market does not move along with one’s analysis but instead shifts according to the sentiments of most people. Over the past two weeks, US and European stock markets took a pessimistic view of the situation in Ukraine, resulting in a general retreat that had also affected the local stock market. On 16 March, Crimea called for an official referendum, and the vast majority of residents voted in favour of returning to the fold of Russia and becoming Russian citizens.
As expected, the European Union (EU) and US reactions were very restrained – all they did were to announce that they will impose some inconsequential sanctions, cancelled the travel visas and froze the assets of a small number of Russian and Ukrainian officials. France even publicly invited Putin to attend a ceremony commemorating the anniversary of the Normandy landing. This shows that the Western powers have all but given up on Crimea as a lost cause, leaving Ukraine’s interim government to put on a show of mobilising its reserve army. If war does break out between Ukraine and Russia, it will unfold in the same way as the war between Iraq and the US.
The political leaders of the EU and US had hoped for a pro-western Ukraine. Unfortunately, the EU’s people do not think so, and they are not willing to bail out their poor Ukrainian ally. During the Eurozone debt crisis that broke out in Greece a couple of years ago, the Greeks were painfully aware that their European allies would not maintain the financial lifeline for long.
The stock market was indeed jinxed over the last two weeks. The missing Malaysia Airlines plane triggered suspicions of a terrorist attack, causing the stock market to start the week on 10 March in a cloud of gloom and doom. Next came leaked news that certain private enterprises listed on China’s A-share market are struggling with insolvency.
Over that week, the Dow Jones Industrial Average index fell for five trading days in a row, the Hang Seng Index fell by a total of 1,121 points, and even though the decline in the Straits Times Index was muted, it nonetheless fell 76 points. It is indeed rare to be slammed with so many bad news within a week. It was not until after the official Crimean referendum on 16 March, and the whimper of a sanction from the EU and US, that the shadow of war was lifted and the stock market rebounded.
China’s February exports fell 18.1 percent year-on-year, which is a shocking piece of economic data. I believe the weakness in exports is inescapably linked to the recent devaluation of the renminbi. For the longest time, the renminbi was on a relentless rise, so much so that renminbi interest rates became higher than US dollar interest rates. This has produced two results: one, investors borrowed the greenback at low interest rates and then converted to yuan in order to cash in on its higher interest rates. They will earn interests as well as enjoy the benefits of an appreciating renminbi. Secondly, Chinese businesses found a way to cut capital costs by borrowing US dollars and exchanging them for renminbi, rather than borrowing in renminbi directly, which they then transferred back into China for their daily operations.
However, since the renminbi is not freely exchanged, how do they convert the borrowed US dollar into renminbi and transfer them back to China? Some people resorted to falsifying export figures so as to convert US dollars to renminbi overseas before transferring the funds into China. For example, the exported goods was supposed to worth 100 million yuan, but the exporter may declare at customs clearance that the value of the goods was 150 million yuan. In this way, the conspirator overseas can legally convert 150 million yuan worth of the greenback into renminbi and transfer the amount back into China. Thus, the original 100 million yuan of exports is artificially inflated to worth 150 million yuan. In other words, past export figures announced by Chinese government were exaggerated, even falsified, to a considerable extent.
In February this year, the rapid devaluation of the renminbi meant it was no longer lucrative to falsify exports so as to import yuan. This is why the export data recently released should be a more reliable figure that is not overly inflated, rather than because there had been a significant drop in Chinese exports. The exaggeration of Chinese export figures in the past has long since ceased to be a secret. Local Chinese economists have been discussing this phenomenon openly. If the PBOC decides that from now on, it will allow the yuan to depreciate over a longer period of time, or it will frequently throw a surprise by letting the yuan depreciate rapidly, that would be a good way to control the practice of falsifying export data. It is unthinkable for China to rely on these exaggerated data in the long run to base its economic decision-making on.
Years ago, the 9/11 disaster in the US resulted in a global collapse in aviation stocks. At that time, I took the opportunity to buy Cathay Pacific at a low, and subsequently made money. Recently, when the Malaysia Airlines plane went missing, the media coverage initially focused on the two passengers who boarded the plane with stolen passports. Naturally, this gave rise to speculation of a terrorist attack. This time, however, I did not have the chance to buy Cathay Pacific at a bargain. On 10 March, even though the market as a whole plunged, Cathay Pacific shares fell only 0.4 percent, a drop that was much less than the retreat of the Hang Seng Index. Even though Cathay Pacific managed to hold its ground, the rest of the Chinese airline stocks fared much worse. Of course, we know Malaysia Airlines shares crashed.
Ten years ago, the resulting impacts on travellers of an aviation incident, whether it is hijacking or terrorist attack against civilian airlines, are generally short-lived. Besides flying, there was no other way to travel long distance. However, thanks to today’s technological advances, ultra-high-speed rail is now a feasible challenge to airlines. Passengers now have the option to take high-speed trains instead of flying. Generally, airports are far away from the city, and passengers have to check-in to the airport an hour in advance. When this is taken into consideration, the time saving between flying and high-speed rail is no longer that significant. In other words, it is no longer worthwhile to go bargain-hunting for Chinese airline stocks in light of the Malaysia Airlines crisis. On the other hand, it may make sense to buy into Singapore Airlines. After all, would anyone fly Malaysia Airlines to Kuala Lumpur after this incident? The disappearance of MH 370 has already cost Malaysia Airlines and the Malaysian government their respective credibility.
Publish date: 22/03/14