China's central bank has been engaging in policies designed to slow inflation over the past several months. The central bank has raised interest rates several times, and it has increased reserve and capital requirements at the nation's banks.
The goal is to slow the pace of economic growth and thereby slow the rapid increase in prices. We suspect the government is especially concerned about the cost of food for its 1.2 billion citizens, most of whom are below what we would consider the poverty level.
Chinese regulatory action is clearly a risk not only for investors in Chinese stocks, but also for investors in US stocks. With each new data point, it is becoming clearer that the recovery in the US will not be a normal one.
The sub-par recovery in the US is being driven by a number of factors:
- 1) Weak employment growth;
- 2) The housing market appears to be double-dipping;
- 3) State and municipal governments are in terrible fiscal shape;
- 4) Consumer debt levels are still very high;
- 5) Retirement savings are inadequate;
- 6) Energy prices are surging; and
- 7) The supply of credit remains constrained.
Given all these issues, the US recovery has become highly dependent on the surging growth in developing economies such as China. US companies are increasingly targeting these high growth markets for exports as the US consumer works to get his financial house in order. Essentially, with only modest economic growth domestically, investors are borrowing growth from more vibrant economies and markets. We expect the process of deleveraging by the US consumer will take a period of years, so our ability to tap demand in overseas markets will be of utmost importance for quite a while.
The conventional wisdom (held by the Fed, among others) is that inflation is not an issue in the US because our consumers spend only a small portion of their income on food & energy.