Rabobank: “Secure Supplies At All Costs”

By Michael Every of Rabobank

“Secure Supplies at All Costs”

Yesterday was World Maritime Day, an appropriate date on which to launch “In Deep Ship”, which argues global supply-chain snarls are not going to resolve themselves “just like that”, effective ways to resolve them are not even being considered, and stagflation risks are soaring. Moreover, trying to move from “just in time” to “just in case” and “just for me” production risks worse global outcomes before things get better. CNN echoes this in saying “The workers who keep global supply chains moving are warning of a ‘system collapse’.”

China bellows it with their decree to energy firms last night to “Secure Supplies at All Costs”. We had already heard reports of China outbidding for the odd LNG cargo penciled for Europe. Now it appears the fossil-fuel floodgates will be thrown open to make sure that there are no Chinese repeats of the “yes, we have no petrol” dramas playing out in the UK. The long and the short of this is that China is going to be long, and everyone else short. Expect global energy prices to respond appropriately: then expect global economies to respond appropriately. Of course, China will still have to decide how much of this higher energy price is passed on and how much is subsidized – a trend that the EU had already embraced.

In an related move(?), Reuters is reporting (and Bloomberg carrying the official denial) that “China’s regulators tighten scrutiny of FX dealers”. Reuters already reported numeric forecasts for CNY in China are banned. Now it claims “regulators are tightening control over the inner workings of its currency market, pressuring banks to trade less and in smaller ranges, two banking sources told Reuters, as part of a sweeping push to curb speculation” in a $30trn market. In the eyes of the analysts quoted, this is aimed at “tightening the leash on the yuan at a sensitive time when US policymakers prepare to withdraw monetary stimulus and China seems poised to add more.” Indeed, representatives of China’s SAFE have apparently embedded themselves on FX trading floors to monitor things. This follows the recent clamp-down on speculation in commodity markets, and the ban on crypto.

If you project a surge in energy imports at very high prices, and hypothesize a huge off-balance-sheet subsidy to suppress energy inflation, one can see why the CNY “market” may be about to join other global “markets” in being a political statement rather than a voyage of price discovery. Of course, having an effective pegged exchange rate, capital controls, soft budget constraints, and artificially low energy costs might start to ring a few bells for economic historians.

More so when this week also saw “Chinese regulators vow steady, healthy property market”. Bullish, because of a promise house prices won’t go down? Not when the authorities actually say: “housing should never be used as a short-term stimulus for economic growth.” (Just don’t tell the West, with NZ house prices up 27.8% y/y and Australia up 1.5% m/m!) So another massive Chinese “market” where prices don’t move. Meanwhile, no soaring land sales to developers will leave a gaping hole in local government finances in the same way that subsidizing soaring energy costs hypothetically would for central government. How to resolve this?

Commentary now suggests Beijing doesn’t want “fictional” investment and GDP, i.e., housing, but something “useful”: “Pro-Fund or Profound Revolution?”, published a few weeks ago, noted this is the “fictitious” vs. “productive” investment Marxist theory points to. So where will China be channeling capital – or is its growth rate just going to be much lower ahead? Read on and see.

In DC, the can was kicked on government shut-down, but on all other fronts there appears no progress. The only thing more certain now is that Senator Manchin is only prepared to back a $1.5trn reconciliation bill, vastly lower than the $3.5trn proposed – and it is unclear if Senator Sinema will accept even that figure: in response, AOC asked if $1.5trn was for just one year. With the moderate vs. progressive stand-off, it seems possible the infrastructure bill will fall, if a vote is held, which would then see the reconciliation bill topple in response. Or the can will be kicked again – though to what ultimate purpose remains unclear.

The absence of trillions in fresh US stimulus means less near-term inflationary pressures on strained global logistics systems. On the other hand, the implicit fiscal cliff will mean a sharp drop in income for many Americans at a time when the cost of goods is going to go up regardless due to energy and supply-chain issues. If that means a market sector is no longer viable, then production will stop altogether – creating more unemployment and less demand. Yet that won’t re-set prices lower if supply is physically constrained and energy and shipping costs remain high.

Which might be why US Trade Representative Tai is due to make an announcement at 10:00EST on Monday about the Biden administration’s bilateral trade relationship with China. The rumour is that 1/3 of the US tariffs on Chinese goods will be removed. That might bring the price of some goods down marginally, but will do nothing to increase supply given China cannot get the goods to market, and energy and shipping prices are going to make them more expensive anyway.

Geostrategically, this would be a further US attempt at détente after the Huawei hostage swap, and sit alongside John Kerry’s push for China to co-operate on green issues, even if that means dropping US human rights concerns too. Yet this is all alongside a US military strategy of alliances (Quad, AUKUS) and a rival to China’s BRI. Is that supposed to be a kind of carrot and stick? Or a sticky carrot? Or a carroty stick? Moreover, China’s policy shift towards common prosperity, and away from markets, is clearly continuing regardless. Threading the needle on the internal US logic is hard to do, unless assuming that different parts of the Biden administration are now just doing their own thing, or short-term fire-fighting with no strategy – but I will also note that during the last Cold War we had periods of on/off détente between the US and the USSR; it didn’t matter much in the end.

Such a US tariff move would ironically not move CNY today given that kind of thing isn’t allowed at the moment. What it would also not do is incentivise on-shoring of US production, as in Build Back Better, or even closed-loop procurement from US allies in Asia. It would perhaps mean the US buying far-from-green-energy-subsidized Chinese goods, as Beijing boosts “useful / productive” investment in exports, even as the States aims for new green standards and presses for a global level playing field. It would also do nothing to reduce the exposed geoeconomic Achilles’ heel of US reliance on –and yet no commercial control over– global shipping. In short, it would be more of what we have dubbed a “Too Big to Sail” strategy.

But all aboard, regardless? “Secure Supplies at All Costs” is very much the order of the day everywhere, it seems.