Investors have survived another week of wacky business antics, violent market swings, and general malaise domestically. However, I want to diverge from my normal within-boundaries commentary and discuss our friends on the other side of the globe: the Chinese. Why should we be so concerned with an emerging economy half a world away? Because they have historically loved our mortgage-backed securities and we have historically loved to buy their affordable imports. We buy their goods, they buy our debt. This maintains the currency imbalance that keeps Chinese goods so cheap for Americans and keeps China’s manufacturing sector growing and happy. Everybody wins. Right?
Maybe not so much anymore. Times have changed since our recent economic derailing. With an ailÂing dollar, Chinese imports are being driven higher and higher in price, consequently decreasing our demand and their revenues. This is an unacceptable scenario, as China has a massive generation enterÂing the job force as we speak. They need jobs for all those hungry young workers, or else they will find themselves in a state of rapidly growing unemployment.
hThe other fun little fact that most people seem to skip over is the enormous appetite China has had for our mortgage-backed securities and their comparable lack of any substantial valuation write-downs. You see, in America we owned up to our balance sheet woes pretty darn quickly. As such, we became the front car on the economic rollercoaster that’s headed south and we’re dragging the world down with us. However, this early purging is placing us in a unique position to bounce back quickly and capitalize on international weakness that will doubtlessly linger well beyond our own set of problems. China, however, hasn’t really owned up to the massive drop in value that their cumulative asset pool has suffered over the past year.
So here’s my worry. Let’s say China slows down their purchasing of our mortgage debt (which they have started to do). That means less demand for mortgage-backed securities. With less demand, an over-supply will develop. In an attempt to encourage investors to eat up all this excess inventory, the return-on-investment (also known as the mortgage rate) will have to go up to engender more interest. That means bigger rates for even well-qualified borrowers.
I’ve been wrong before and I may be totally wrong here. But I would bet that China is one massive time-bomb waiting to go off. And with their burgeoning political alliance with Brazil, India and RusÂsia, that pending explosion could wreak some serious havoc internationally.
On the local front, the Consumer Price Index, the Fed’s favorite measure of inflation, came in at a surÂprisingly tame 3.9% annualized growth which is the lowest it’s been since October of last year. Mind you, that number is still well outside of the Fed’s â€˜comfort range’. It implies that higher food costs have yet to find their way into consumer prices.
Ben Bernanke stated in his May 13th speech that there is “still a ways to go” in our economic slowÂdown despite a stabilizing of financial markets. As such, he is calling for banks to remain vigilant in raising capital in order to alleviate stress in the financial system.
The Senate is also inching closer to expanding a governmental program to insure hundreds of billions of dollars in refinanced mortgages. This would be a huge step to providing some relief to the rising foreclosure epidemic plaguing our country and could bolster home prices if successful. Here’s hoping.