Beijing targets the boom in bonds

Most governments are desperate to lower their borrowing costs, says Jacky Wong in The Wall Street Journal. But in China, the authorities think markets are lending them too much money. Chinese banks have been piling into bonds, which causes their yields to fall. The country’s 10-year yields have dropped from 2.6% to roughly 2.18% over the past 12 months. 

Beijing wants to ward off a growing “speculative frenzy”. The “official explanation” is that banks that pile up bonds are exposing themselves to “huge losses” if rates turn – as America’s Silicon Valley Bank learned to its cost last year. Authorities have sought to cool markets by naming and shaming “a group of rural banks”, says Robin Harding in the Financial Times. Their “unusual sin”? Buying too many government bonds. It’s rather “like punishing a child for tidying their bedroom”.

Why are bonds looking attractive in Beijing? 

Yet the rush into government bonds is not a mere speculative bubble that needs to be popped. Rather, it is the “wholly rational” choice in an economy where the alternatives – stocks and property – have long disappointed. Bond markets are sending a signal that the economy is slowing and deflation is a growing threat. While Chinese price changes can be difficult to gauge, one measure – the GDP deflator – has fallen 0.7% over the past year amid sluggish domestic demand. Low or negative inflation increases the real return on bonds. Assets in Chinese bond mutual funds consequently soared 40% in the year to May, says Nicholas Spiro in the South China Morning Post. “Beijing might not like the bleak signal low bond yields are sending”, but “it cannot defy economic gravity”. 

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Households and businesses are focused on paying down debt: “last month, bank loans shrank for the first time since July 2005”. Amid the longest period of deflation since 1999, policy circles are abuzz with comparisons to Japan’s prolonged slump in the 1990s. The root cause of sluggish consumption is not a mystery, says The Economist. In 2019, residential property accounted for 60% of the average Chinese city resident’s wealth. The property slump has “damaged consumer morale”. Consumption did pick up last year as the economy reopened, but spending “has since begun to flag”. 

Officials haven’t stood still. They have been rolling out a RMB150 billion (£16.13 billion) incentive scheme to encourage households to buy new electric cars, refrigerators and televisions. But the scheme equates to a mere 0.3% of the country’s annual retail sales. Another approach to reviving consumers’ confidence is through stock markets, says Wolf Richter on Wolf Street. 

Earlier this year, “state-controlled funds” – known as the “national team” – bought an estimated $66 billion in local exchange-traded funds. That wave of buying helped draw in foreign fund managers and sparked a 17% rally in the local CSI 300 index between February and May, but since then the sell-off has resumed as investors have taken tactical profits. The CSI 300 has fallen 36% since the start of 2021 and is still 40% short of its 2007 peak. Who said “buy and hold” always works?

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