G20 and the China\America seesaw.

This morning Chinese stock markets plunged.  Shanghai down 5.2% while Shenzen fell 6.1%.  Within this sell off shares in copper  and tin companies fell by 8-9% while Cosco Shipping fell nearly 10%.  Now those are not small falls.

That this happened at the close of the G20 tells us that was the trigger if not the cause.  China has internal and regional issues that have their own dynamic but just how acrimonious relations with America will be are an important factor.  Bad relations pushed the likelihood of a trade war.  Many of the elements of a tit for tat war are already in place in disputes at the WTO. If they break out from there into  the open then we will be in a new phase. 

Internally the central Chinese authorities are still wrestling with their bank and property bubble.  They have raise rates and capital holding requirements for their banks nearly half a dozen times in the last year.  Lending however has not really been dented.  A larger potential crimp on lending will come if Local government tax laws are changed.  One region is trying it out and so far it looks like it will work.  The change would allow regional governments to impose a property tax.  There isn’t one at the moment.  This would give regional governments an income that up til now they have only been able to get by selling land. That selling of land is the engine of the property bubble.  The regions sell land, the banks lend to buy at and voila, a bank and housing bubble.  A property tax would mean regional governments could fund themselves without selling land.  And the tax would itself also take some of the froth out of the market.

Of course some regions would tax and sell. But it would be a start. 

Regionally China is concerned with a possible alliance between japan and India whose Prime Minister recently visited Japan to talk about trade and cooperation.  China is concerned that India and Japan make a good trading fit. India needs to buy industrial equipment and needs finance to do it from friendly banks. Japan needs cheap labour, an open market for its export and its banks desperately need firends who have some prospect of actually paying back their loans. There really is scope to build a powerful alliance.  China does not like the idea, but at least has its own alliance with Australia.

China must now decide what it can do about the flow of cheap dollars that the U.S. has unleashed and looks set to continue to pump out into the emerging markets.  China cannot stop the inward flow. But it could make getting the profits back out quite difficult.

I expect to see China now engage rapidly in a series of visible bi-lateral talks and agreements. If I’m right, they will be a statement of power and intent as much as anything else.

Whatever it decides, the Chinese market sell off has already hurt the U.S. and sent a warning shot.  Any decline in China sends money looking for ‘safe-havens’ which means buying dollar debt.  Which strengthens the dollar generally. Already the dollar is regaining strength that QEII was designed to depreciate.

It’s a seesaw with the boys at each end looking increasing as if they no longer want to playing nicely but are now looking to dump the other off into the dirt.