🔔 China's Consumption Crunch

A key measure of China's money supply signals that companies' capital cushions are narrowing as sluggish consumer demand keeps cash from circulating through the economy.

The M1 money supply, which includes cash and demand deposits at banks, fell 1.9% on the year for January -- the first-ever decline in data going back to 1997. This and the M2 supply, which also includes time deposits and household savings accounts, are closely tied to economic conditions and prices.

The downturn was driven by a 5.3% drop -- the largest on record -- in corporate deposits, which make up about four-fifths of the M1 supply.

The Lunar New Year was a major factor in the decline. Many companies give employees generous bonuses before the long holiday, transferring money from corporate to consumer accounts. Reflecting this, the M2 money supply rose 9.8% on the year in January, faster than the previous month's 9% rise.

But even after accounting for this seasonal factor, the month's M1 growth still amounted to just 2%. This is tied to broader economic trends, namely a slump in household spending.

This year, households have been reluctant to open their pocketbooks, in part because of the job market's slow recovery.

Cash-strapped companies are relying more heavily on short-term funding sources. Short-term bank loans jumped 75% on the year in January, and financing from shadow banks has rebounded sharply as well.

Net funding derived from such sources as entrusted loans, trust loans and undiscounted bankers' acceptances -- none of which appears on bank balance books -- has reached its highest level in about five years, indicating that the authorities may be relaxing restrictions on shadow banking so that smaller business can maintain cash flow.

Short-term lending helped drive a 10.5% expansion in a broad measure of financing, including lending to corporate and retail borrowers, to 320 trillion yuan ($50.4 trillion) at the end of January as growth of this measure continued to accelerate after bottoming out in September. Bond floats by local governments to fund economy-boosting infrastructure projects also contributed to this rise.

Reviving private-sector demand will be essential for stable economic growth. The State Council on Monday affirmed plans to incentivize capital spending by small businesses through tax breaks and to encourage long-term borrowing in the manufacturing sector.

"We will actively promote policies that will contribute to economic stability, and cautiously implement policies with a contractionary effect," said Ning Jizhe, who heads the National Bureau of Statistics.

After the Two Sessions in early March, we think more local governments (especially higher-tier cities) will roll out demand-side easing.

Many emerging economies, like China's, remain exposed to the fortunes of the dollar. As the needs of China's economy diverge from U.S. monetary policy, its dollar dependence is looking increasingly dangerous, increasing the risk of a wild ride in the Year of the Tiger.

In 1994, when the U.S. Federal Reserve last embarked on a surprise tightening, deteriorating dollar monetary conditions and declines in U.S. Treasury prices triggered bigger problems across emerging markets. This started with the Mexican peso crisis, also known as the Tequila crisis, in 1994 and culminated in the Asian financial crisis of 1997-98.