China has had the biggest monetary expansion in world history over the past 8 years, but ran into the "marginal futility of new money" in June 2014-January 2016, as monetary easing mainly resulted in Capital Outflows, thus failing to boost nominal GDP. The latter improved slightly in 1H 2016, helped by slower net capital outflows, as the PBOC succeeded in generating two-way movement in the RMB (and communicated its strategy on managing the RMB's NEER better). That benign period is about to end, with faster capital outflows likely to slow TSF and M2 growth further, and FAI finally set to decline YoY in 4Q 2016 and into 2017. This is bad for China's growth but should be positive for the rest of the world, which can begin a new investment cycle in 2017.
Capital and services/income outflows were US$56.4bn in July 2016, having averaged a more modest US$47.5bn monthly in the latest six months (Feb-Jul16)-- compared with US$130bn of monthly net outflows in the previous 6 months (Aug15-Jan16), helped by two-way movement in the RMB and the reduced prospect of higher US interest rates. With the US economy gaining strength and US politics supporting a public-investment-led re-acceleration in the US next year (see Bullish: HRC Slays the 1930s’ Spectre; Prepare for Investment-Led Recovery), higher US interest rates will begin to induce larger capital outflows from China by Nov-Dec 2016.
FAI rose just 3% YoY in July 2016, although FAI to SOEs was still up 6% YoY -- reflecting the continued strength of bank lending to the effete SOE sector. Shadow-bank lending has slowed to a crawl, and so FAI to the private sector declined more than 20% MoM in July. This is a healthy development for an economy plagued by over-capacity. However, the likely acceleration in capital outflows in 4Q 2016 (as the world re-adjusts to the likelihood of higher US interest rates) will slow M2 and TSF growth substantially further, causing aggregate FAI to decline YoY in 4Q 2016 -- and continue doing so in 2017. Next year is thus set to see a sharp deceleration in China's real GDP growth, and much more turbulence in its political succession process over the next 15 months.
For the rest of the world, however, declining FAI in China is a significant net positive -- allowing the US and India to lead a new global investment cycle in 2017 and beyond.
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