Unexpectedly Intriguing!
July 8, 2015

After April 2015's data anomaly, the year-over-year growth rate of the value of all the goods exported from the U.S. to China once fell back to levels that suggest that China's economy is experiencing recessionary conditions for the just-reported month of May 2015.

At the same time, the value of goods being imported by the U.S. from China rose back to positive territory, indicating that the U.S. economy experience positive but slow growth conditions in May 2015.

Year Over Year Growth Rate of Exchange Rate Adjusted U.S.-China Trade in Goods and Services, January 1986 - May 2015

Through May 2015, the economic situation in China is clearly not improving, as a nation experiencing robust economic growth would need to import a growing level of goods to sustain its growth. Instead, the decline in the year-over-year growth rate in the value of goods imported by China from the U.S. suggests that a considerable amount of slack has developed within China's economy, which the U.S. Census Bureau's international trade data indicates has not yet really begun to close.

That continuing weakness has persisted despite the Chinese government's interventions. The following chart from the World Bank's June 2015 China Economic Update illustrates the actions that China's government has taken as

World Bank - China Economic Update - June 2015 - Updated 3 July 2015 - Figure 1.4 - p. 5 - http://www.worldbank.org/content/dam/Worldbank/document/EAP/China/ceu_06_15_en.pdf

These are not actions that are taken by the government of a nation whose economy is really growing at a rate of 7% per year, which suggests that once again, China's own reported economic data is highly suspect. Or as Christopher Balding memorably described the mismatch between China's promised GDP figures and the reported profitability of Chinese businesses on Twitter:

1. GDP growth of 7% w/profit growth of 0.6%=really bad managers or 2. GDP growth not really 7%. Choose 1 or 2 #China

We should acknowledge that the Chinese government's new efforts to prop up share prices on the nation's stock exchanges are also not those of a nation whose economy is really growing at a rate of 7% per year. Bloomberg provides a chart giving additional context to the relevant time series here:

Bloomberg: China's Market and Policy Timeline - November 2014 through 5 July 2015 - http://www.bloomberg.com/news/articles/2015-07-07/charting-the-rise-and-fall-of-china-s-equity-market#media-2

In addition, the Financial Times reports that China's government has taken the unusual step of informally banning the phrases "equity disaster" and "rescue the market" from Chinese publications, even as it has acted to halt trading in the stocks of 940 over 1,300 firms. In addition, Bloomberg declares in a headline that "China Tells Investors: Go Ahead, Bet the House" in a report on how China's government is allowing Chinese investors' houses to be put up as collateral for margin loans if they borrow money to buy Chinese stocks, which is also an effort to try to get more Chinese investors to plow more money into the nation's stock markets. As is restricting major stockholders from selling any of their shares.

Here's where China's reported 0.6% profit growth for its businesses is a problem. Back in 2013, China's top companies were encouraged by their government to pay at least 30% of their annual profits to shareholders to lure more investors into the nation's stock markets.

From our perspective, that policy clearly worked. However as Chinese investors are now learning, having directly linked dividends to be a set percentage of earnings provides very little insulation from having stock prices suddenly crash when investors shift their attention to a more distant future and realize that the earnings growth needed to support the cash dividend payments they may previously have been expecting won't be there. That's simply part of the math of how stock prices work and is the cause for the "panic sentiment" that has come to grip the nation's stock markets over the past three weeks.

At this point, what needs to happen for Chinese stock prices to stabilize and reverse their negative trend is for the acceleration of the growth rate of expected future dividends per share to shift from negative to positive (or rather, the rate at which expectations for future dividends are worsening needs to slow down). To enhance stock price stability and reduce volatility in the longer term, Chinese firms would then need to decouple the direct linkage between their dividends per share and their earnings per share, setting their dividend policies to be on a more stable and sustainable growth trajectory as their prices recover.

At least that would be a far more useful path for China's political and business leaders to follow going forward. Take it from us - if we can train the Fed's minions to avoid downturns and stabilize U.S. stock prices by managing expectations, we can certainly do the same for their Chinese counterparts.


Board of Governors of the Federal Reserve System. China / U.S. Foreign Exchange Rate. G.5 Foreign Exchange Rates. Accessed 7 July 2015.

U.S. Census Bureau. Trade in Goods with China. Accessed 7 July 2015.

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