The Breakdown - China Brings Out the Stimulus Bazooka

Episode Date: September 27, 2024

A macro roadshow including China's big shift into stimulus, Bukele at the UN and Argentina's turnaround. Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribe to the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

Welcome back to The Breakdown with me, NLW. It's a daily podcast on Macro, Bitcoin, and the Big Picture Power Shifts remaking our world. What's going on, guys? It is Thursday, September 26th, and today we are talking macro. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the Breakers Discord. You can find a link in the show notes or go to bit.ly slash breakdown pod. All right, friends, well, we are taking a departing to part. away from the cryptosphere, away from the SEC today, because there are some really interesting

things going on in the world of macro. And I think right at the top of that list is what's coming out of China. Beijing has unleashed massive stimulus in a bid to revive the struggling Chinese economy. On Tuesday, the People's Bank of China held a rare press conference to announce a raft of policy measures. Specifically, the central bank has reduced reserve requirements for banks by half a percentage point. This move is anticipated to release around $142 billion, which policymakers hope will boost lending. The seven-day policy rate and mortgage rates were also reduced. Finally, a few days later, the PBOC cut the rate on their medium-term lending facility from 2.3% to 2%, which is the largest cut since the policy tool was created back in 2016. The central bank also guided that further rate cuts

are expected. And what's more, alongside rate cuts, the PBOC announced a $71 billion fund to provide emergency liquidity to the stock market and a host of minor tweaks designed to support the real estate market. So what is the context for all of this? Well, the slowdown in China has been evident for years, but it appears to have hit a crisis point this week. The major trigger seems to have been new data suggesting this year's GDP growth will come in below the 5% target. China didn't set a growth target in 2020 due to the pandemic and missed their target in 2022 amid a second wave of economic shutdowns and civil unrest. Aside from those two years, however, this would be the first time that GDP has come in soft since the late 80s.

Growth, though, is just one element in a complex picture of weakness in the Chinese economy. The housing market is into its third straight year of price declines. Last year was punctuated by the collapse of Evergrand and several other large property developers. However, the pace of the housing drawdown has accelerated into this year, reaching its worst state since 2015. Unemployment is also a major concern. In the middle of last year, the government suspended the release of youth unemployment figures

after it reached a record high of 21%. Data reporting standards were changed to exclude young people attending college, and reporting continued early this year. In August, youth unemployment hit a record high under the new metrics, reached a record high 18.8%. The figure showed 13.2% in June and 17.1% in July, demonstrating a sharp decline in the prospects for young workers. Some are noting that structural policy settings could be making the situation worse. Sean Rain, the founder of China Markets Research Group, said, many companies are refusing to hire recent college graduates now because they worry about the cost and legal difficulties

if they have to let someone go a year down the line if the economy remains in the doldrums. If someone works for two years, companies have to pay 30 days notice plus two-month salary. This is expensive, so no one wants to fire anyone now or hire anyone new. This polycrisis across the economy has led the CCP to reconsider their stance on fiscal stimulus. Last year, as the economic slowdown became evident, officials were outspokenly against cash transfers to support households. They warned of the quote-unquote trap of welfareism in line with President Xi Jinping's view that social welfare creates what he calls lazy people.

In an abrupt backflip, Beijing has announced one-off cash handouts to the poorest households. The total distribution is around $21 billion. The stimulus will be delivered by early next week to get ahead of the Golden Week holiday centered around the anniversary of the founding of the People's Republic. This is a major period for domestic travel and general spending as workers return to visit their home provinces. The measure was announced on the state broadcaster with official stating that it would demonstrate, quote, the party and the government's love and care for people in need.

Now, while these measures are large, economists are warning they may not be large enough to address the massive challenges facing the Chinese economy. If last year was marked by fears of an impending slowdown, this year is showing signs the recession has arrived. Inflation measurements are showing that domestic prices have fallen for the past five quarters in a row. That's the most protracted period of deflation since China joined the World Trade Organization in 2001. Nigel Pay, a portfolio manager at Timefolio Asset Management, said, A lot of China's issues are demand or confidence-driven. Overall, I don't think the measures can move the needle as China's problems are complex and there's no silver bullet.

Michael Pettis, finance professor at Peking University tweeted, these mostly supply-side measures would certainly be helpful if the problem in China was that production was struggling to keep up with growth in demand. But with weak demand is the main constraint, these measures are more likely to boost the trade surplus than GDP growth. Overall, there's a sense that China might be out of tools to address the problem. The combination of monetary and fiscal packages are huge in the context of past Chinese policy, but are relatively modest given the economy has doubled in size since 2015. Chinese GDP is currently around $20 trillion,

significantly larger than the U.S. economy was in 2007. The measures announced so far pale in comparison to Ben Bernanke's bazooka and the $700 billion congressional bailout that came alongside. China might simply not have the firepower to fix the structural issues that have been festering for decades. The central government maintains an unwritten rule of restraining the annual deficit to 3% of GDP and sovereign debt to a ratio of 60% of GDP. For context, the U.S. government is currently running deficits above 6% and has a debt to GDP ratio of around 125%. The problem is that the network of regional governments and state-owned enterprises have been forced to to take on massive loads in place of the central government.

Only rough estimates are possible as the data is not well reported, but the general consensus that these entities carry debts of around 300% of GDP. Private debt adds a further 200% of GDP. With balance sheets that is stretched already, it's not clear the central government can actually do much to address defaults and the deflationary wave that comes with them. The world doesn't have a clear playbook for this kind of economic strife. There's no clear analog for how to address a $20 trillion economy. heading into structural deflation. Aside from how the U.S. dealt with the GFC, the closest comparison

was Japan in the 1990s, which is not a roadmap that any country should be looking to adopt. At their peak in 1989, Japan's economy was the second largest in the world, and around 17% of global GDP. China is currently in the exact same position, also representing 17% of global GDP. Japan's predicament in the following decades is generally understood as an economy-wide balance sheet recession. Households, corporates, and regional governments were all heavily indebted. After a decade of impotent stimulus, economist Richard Koo explained the problem. The Japanese government unleashed a large amount of stimulus, but this was generally used to pay down debt rather than boost spending in the real economy.

Stimulus can speed up the process of balance sheet repair, but for Japan, it still took 15 years for corporates to begin taking on additional debt. Structural deflation took until 2021 to conclude. Koo has been warning for several years that China is facing this exact same problem, but remains unable to offer a practical solution that can avoid lost decades. Chinese officials are beginning to reckon with the situation in public. Xu Kiwan, the Deputy Director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences, commented recently on the appropriate path to take.

He is calling for the central government to remove their spending limits and ramp up fiscal policy, saying, while expansionary policies come with side effects, a lesson we should learn from Japan is the side effects would be even worse if expansionary policies are not taken or delayed. China should not be bound by outdated fiscal doctrines in the U.S. and Europe. So, while the Chinese government calibrates their policy options, markets have clearly signaled that they know that all roads lead to liquidity injections. Chinese stocks have seen their largest rally in several years, with the I-share's China large-cap ETF up almost 10% this week. Market practitioners are still skeptical about the sustainability, though, of the boost in Chinese

stocks. Brittany Lamb, the head of long-short equities at Magellan investment said, I do see a short-term positive market reaction as there is real liquidity impact and potential buying momentum to support Chinese equities. However, the fundamental deflationary pressures and property down cycle remain, and will continue to weigh on consumption and hence economic growth. Meanwhile, crypto markets that touch China are seeing an influx of demand. According to chain analysis data, the network of black market OTC brokers in China are doing record numbers. Each of the past three quarters saw over $20 billion in volume. No other period comes close since the crypto trading ban was ramped up in 2021. Chainalysis said around 55% of total value was transacted in transaction

sizes above $1 million. They said it was impossible to tell whether this represented wealthy individuals engaging in capital flight or businesses aggregating the orders of many smaller customers. Dan Tapiero, the founder of 10T Fund, thinks the outcome is clear, tweeting, huge macro event. Things are so bad in China, the government flinches. QE for China equity, rate cuts, big liquidity coming, low likely in for China assets. Bazooka, bullish gold in BTC. Yes, sometimes it is that easy. Analysts at QCP Capital, meanwhile, suggested that global policy is all pointing in the same direction, stating, we believe more easing is coming from the PBOC, and they have communicated as much.

Combined with the U.S. Federal Reserve joining the global cutting cycle, all major central banks except Bank of Japan are now ready to inject more liquidity into the market. The macro space continues to look more and more bullish for risk assets, including crypto. Hello, friends, before we get back to the rest of the show, I want to implore you to join me at Permissionless. Permissionless is the conference for crypto-natives by crypto-natives, and the reason it's so important this year is that despite regulators' best attempts to push industry founders, devs, and executives out of the U.S., the United States remains the beating heart of crypto.

Today, the tide is turning. Policymakers have pivoted from fighting crypto to embracing it. Literally now we are in a major political parties platform, which will lead ultimately to the creation of new financial products, new applications, and ultimately new adoption. Permission list is the conference for those using and building on-chain products. It's home to the power users, the devs, and the builders. And perhaps more importantly, I will be there. The location is Salt Lake City, the dates are October 9th to the 11th,

and tickets are just $499. If you want to get 10% off, use code Breakdown 10. Go to the Blockworks website, blockworks.com. There will be links to register for the conference, and again, you can use Code Breakdown 10 to get 10% off. Moving on, if a slowdown in China wasn't enough to demonstrate that the global order is changing, El Salvador's president Naïi Buckele gave a speech at the UN on Wednesday to warn of a, quote, dark new era for humanity.

He lamented the drumbeats of war pounding across the free world and growing restrictions on free speech, adding, once a nation abandons the principles that make it free, it's only a question of time before it completely loses its freedom. Buckele referenced arrests in the Western world linked to social media posts and argued, it's accelerating and this means we are moving towards a scary inflection point. We are standing before a dark new period for humanity. As Salvadorans, we recognize these symptoms of decadence when we see them because we have been through them all. We live through the stages of our own nation's downfall one by one, and we are seeing those same stages once again, but this time on a global scale.

Puekele recognized that El Salvador is much too small to play a role in geopolitical shifts, but offered his nation as a, quote, small shelter from the coming storm. He claimed, In El Salvador, we do not imprison our opposition. We do not censor opinions. We do not confiscate property from those who think differently. We do not arrest people for expressing their ideas. One of the things that many thought was alarming about this is the extent to which free speech has become a politically coded issue across the Western world. What the speech also did was it painted El Salvador's Bitcoin policies in a new light. Basically, it showed Buckele choosing Bitcoin as a symbol to represent a larger mission. Bitcoin has allowed El Salvador, according to Puekele, as a tiny micronation to access

hard money on an even playing field with larger and wealthier nations. El Salvador cannot pour hundreds of billions of dollars into AI data centers as we've seen across the Middle East. They cannot buy hundreds of tons of golds as we've seen from aspiring superpowers like China, India, and Russia. But with 24 words, they can secure their nation's wealth during the coming storm. Speaking of nations and Bitcoin, while El Salvador's adoption of Bitcoin is notable, but ultimately somewhat nominal, another micronation is going all in on the strategy. Earlier this month, it was revealed that the tiny Himalayan kingdom of Bhutan had accumulated 13,000 Bitcoin, currently worth around $820 million. That's around a quarter of the kingdom's annual GDP. It places them

fourth among Bitcoin-holding nation states with almost double the amount of Bitcoin as El Salvador. On a per capita basis, the numbers are even more notable, as Bhutan has a population of less than a million people. Bhutan has accumulated this wealth through the steady buildout of mining operations to take advantage of plentiful hydroelectric power. In April, BitDeer announced a partnership to increase Bhutan's mining capacity sixfold, expected to hit 500 megawatts by the first half of next year. Taking a look at the development story of Bhutan, it's not hard to read this as a choice based in self-determination. The largely agrarian economy has spent its recent history rely in on electricity imports to India. In 2023, Bhutan became the first country since 2020 to graduate

from the U.N.'s list of least developed countries. Surprisingly, removal from this status is a double-edged sword. Under World Trade Organization rules, Bhutan's assent comes with relaxed compliance standards, but also a removal of aid. There's also some suggestion that the ascent will actually slow Bhutan's progress to becoming a full-fledged member of the WTO. With all that in mind, it's not hard to see why a vulnerable nation nestled in between two regional powers might choose to rely on Bitcoin rather than the maintenance of the global order. Now, a larger country with an interesting place in the shifting global order is Argentina, which has seen a sharp reduction in inflation since the election of Javier Miele. The controversial libertarian economist was

elected last October on a platform of radical reforms. He promised to shut down the central bank, bringing a halt to rampant inflation, and cutting the size of government. Miele literally campaigned while wielding a chainsaw, which he said he would use to hack away at the Argentine state. The central bank does remain in place, but the reforms are otherwise progressing well. Since the beginning of the year, inflation has been down only, reaching levels as low as 4% per month. That's still 60% on an annualized basis, but of course, that's nothing compared to the almost 300% that inflation reached at its peak. Miley also removed rent controls, which resulted in a flood of rental properties back onto the market, and rent increases falling to a three-year

low. Still, the electorate that danced in the streets on Election Day is starting to cool on Milay. The latest poll show that his support fell by almost 15% in September, which is the sharpest drop-off during his nine-month administration. Declining support, however, has not cooled his temper. Appearing before the UN General Assembly on Wednesday, he delivered a screed against socialism. During the summit, the UN had adopted a 42-page pact for the future, including goals to promote climate action, gender equality, and the regulation of AI. Lee called for the assembled leaders to reject the PACs, stating, Argentina will not back any policy that implies the restriction of individual freedoms or trade,

nor the violation of the natural rights of individuals. We invite all nations of the free world to join us not only in opposing this pact, but in the creation of a new agenda for this noble institution, the freedom agenda. With shades to the fourth turning, he sneered, I'm here to warn you that we are at the end of a cycle. The collectivism and moral posturing of the woke agenda have collided with reality. Meanwhile, in the U.S., the fiscal situation is showing no signs of slowing down. Republicans passed a resolution to continue funding the government before leaving Washington this week,

deciding that a government shut down over election season would not play out in their favor. M2 money supply has reached a new all-time high, adding a further 1% last month alone. Each month since February has seen the money supply increase. U.S. money supply has been increasing at an average rate of 7% annually over the past five years, curiously in line with the average rise in the S&P 500. With China committing to substantial easing in the Bank of Japan on pause, the global consensus is now aligned to add liquidity to the system with no remaining holdouts. The received wisdom is that rising global liquidity is good for Bitcoin, but Lynn Alden recently put

some numbers around it. She commissioned a report from Sam Callahan, which found that 82% of the time, Bitcoin's price moves in the same direction as global liquidity. The U.S. national debt currently sits at $35.4 trillion in counting. We're heading into an election where both candidates are running on a platform that the Congressional Budget Office believes will increase the deficit. The word debt wasn't mentioned a single time during the debates, and so while we don't know what will happen as the national debt continues to climb, as Lynn Alden is fond of saying, nothing stops this train. All right, friends, so that is the macro story from here. Appreciate you listening as always. Until next time, be safe and take care of each other. Peace.