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Selasa, 13 September 2011 | 02.50 | 0 Comments

Don't bet on China saving the eurozone

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13 September, 2011
  • Don’t bet on China saving the eurozone
  • Recommended article: Why starting a pension early could be a mistake
  • Yesterday’s close: FTSE 100 down 1.6% at 5,129... Gold down 2.18% to $1,815.30/oz... £/$ - 1.5862
From John Stepek, across the river from the City

Dear Golden Jann,

John Stepek When in doubt, call the Chinese.

The superpower-in-waiting has become the global lender of last resort. If no one else will recapitalise your bankrupt bank, or buy bonds from your hopelessly indebted country, you can always put in a call to China.

A report in the FT that Italy had done precisely that, inspired a late rally in the euro last night, not to mention a last-minute recovery in the Dow Jones.

But even if the rumour is true, we wouldn’t be piling into Europe just yet.

Here’s why…


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China’s convenient bail-out for Italy

According to a report in the FT last night, officials from China’s sovereign wealth fund have been looking at investing in Italian government debt and companies.

Conveniently enough, this news of China’s interest in Italy’s assets comes just as Italy tries to flog off as much as €7bn of government debt today. It needs the money to help pay for €14.5bn in debt that matures later this week.

This follows the sale of €11.5bn in one-year bonds yesterday. The sale got away, but the bad news for Italy is that the yield surged. The country had to pay 4.153%, compared to just 2.959% for the same notes a month ago.

Given the size of Italy’s existing debt burden, it can’t really afford for borrowing costs to keep rising like this. It still needs to sell about another €70bn of bonds this year, reports Bloomberg. News of China’s interest might encourage others to be more enthusiastic about the country’s debt. Indeed, so convenient is the timing of this story, that one City source described it as “the most spurious rumour I’ve heard in a long time”.

Others are less sceptical. Nicholas Zhu of Australia and New Zealand Banking Group tells Bloomberg that “it’s a clear pattern of China’s intention to stabilise the euro area. The benefit to China is that it will help in the perception of host countries if China is viewed as a responsible stakeholder in the global community.”

That’s a nice way to put it. But there are also far more pragmatic reasons for China to want to prop up the eurozone. A strong euro is in China’s interest. The country may have let its currency off the leash a bit when it comes to the dollar, but remember, up until recently, the dollar has been very weak against most other currencies.

The last thing the Chinese want is for the euro to slide against the dollar. That’s because Europe is China’s biggest trading partner. Chinese exports to the EU hit €281.9bn in 2010, a rise of 18.9% on 2009. Try repeating that performance with a strong yuan.

Italy is “too big to bail”

But even if the Chinese are planning to buy Italian bonds, will it help? History suggests that – as with every other eurozone ‘solution’ so far – it won’t. Remember, China has made similar promises to Greece and Portugal during this crisis, and any relief from those was short-lived.

What is more interesting is that this highlights where the real danger in the eurozone lies. Markets are already pricing in an imminent default in Greece, and that’s what’s been grabbing the headlines. The Greek one-year bond is yielding more than 100% as my colleague David Stevenson pointed out yesterday, while the French banks exposed to this debt have seen their share prices plunge.

That may prove to be overly pessimistic (for now). After all, German chancellor Angela Merkel is still firmly ruling out letting Greece go. But the point is, it’s not just Greece that’s in trouble. If Europe could have pulled its act together two years ago, Greece shouldn’t have posed such a massive problem.

Italy is different. It’s “too big to bail”. Even if China were to buy its bonds, as one strategist tells Bloomberg, it “could slow the bleeding, but it won’t heal the wound.” That means there’s no end to this drama in sight.

The final reason that we wouldn’t rely on China to be global saviour is that the country has problems of its own. Trade and monetary data for August were broadly welcomed by pundits as being positive. But they’re not looking at it properly, reckons Diana Choyleva of Lombard Street Research.

If you consider the seasonally adjusted figures, and look at the trend, then imports have grown by just 0.5% so far in the third quarter (Q3), which “suggests tough domestic demand conditions”. Exports meanwhile were up by just 0.8%.

The fact is that tighter monetary policy is having an impact in China. Electricity production (often used as a rough guide to GDP) has grown by just 0.2% in Q3 so far. That’s “the lowest reading since the economy plunged into recession at the end of 2008”.

Yet with inflation still a problem, the Chinese won’t be looking to loosen the reins any time soon. It might not be facing a repeat of 2008, but a ‘soft landing’ for China “seems highly unlikely over the next few quarters”.

We’ll be looking at the implications of the European problems and the wider investment opportunities arising from the ‘currency wars’ in the next issue of MoneyWeek magazine, out on Friday. If you’re not already a subscriber, claim your first three issues free here.

Got a comment on this article? Leave a comment on the MoneyWeek website, here.

Until tomorrow,

John Stepek

Editor, MoneyWeek

Our recommended article for today...

Why starting a pension early could be a mistake
- The received wisdom is that you should start saving for a pension as soon as possible. But that could be a mistake. You may be better off waiting until your mid thirties, says Merryn Somerset Webb: Why starting a pension early could be a mistake.

And for yesterday’s market update, see below...


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Forecasts are not a reliable indicator of future results. Your capital is at risk when you invest in shares, never risk more than you can afford to lose. Please seek independent financial advice if necessary. MoneyWeek Ltd. Customer Services: 0207 633 3780.

Market update

Click here for the latest stock market news and charts.

The FTSE 100 fell further yesterday as investors grew increasingly concerned about a Greek default. The index closed down 1.6% at 5,129.

Miners were again among the worst performers. Fresnillo was the day's biggest faller, down 7.5%. ENRC lost 3.5% and Antofagasta was 3.1% lower.

Insurers were also out of favour. Aviva fell 4.5%, Resolution lost 4.4% and Legal & General slid 3.3%.

Highest climber of the day was Man Group, which gained 5%.

In Europe yesterday, the Paris CAC 40 fell 120 points to 2,854, and the German Xetra Dax was 117 points lower at 5,072.

In the US, the Dow Jones Industrial Average rose 0.6% to 11,061, the S&P 500 added 0.7% to 1,162, and the Nasdaq Composite was 1.1% higher at 2,495.

Overnight in Asia, Japan's Nikkei 225 gained 1% to 8,616, and the broader Topix index rose 1.2% to 749. In China, the Shanghai Composite and the CSI 300 each fell 1.1% to 2,471 and 2,720 respectively.

Brent spot was trading at $112.17 early today, and in New York, crude oil was at $88.46. Spot gold was trading at $1,818 an ounce, silver was at $40.40 and platinum was at $1,814.

In the forex markets this morning, sterling was trading against the US dollar at 1.5799 and against the euro at 1.1623. The dollar was trading at 0.7356 against the euro and 76.96 against the Japanese yen.

And in the UK, Mitchells and Butlers, which owns the O'Neills, Toby Carvery and Harvester chains of pubs, turned down a takeover approach by the owner of Tottenham Hotspur, Joe Lewis. Lewis, who already owns 23% of the pub group, offered 224p a share.

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