My Blog

November 3, 2007

SAT 3 NOV 2007

College unemployment By Michael Pettis

According to a Xinhua report, the Ministry of Education said today that by then end of September, of the 5 million students who graduated in July of this year, 1.44 million were still unemployed.  Last year at this time there were 1.24 million unemployed recent graduates.  It isn’t clear from the article if the rise in the number of unemployed students was caused by fewer jobs offered or more students graduating.

 

I would guess that rising unemployment among college students has to be one of the things that worries anyone concerned about social stability.  I suppose that it will increase pressure for the authorities to avoid doing anything that might slow employment growth in the medium term.  As China’s financial markets become more efficient at allocating capital, there should be a positive impact on the market’s ability to generate good jobs for college graduates, but until then let’s hope that student expectations about job prospects don’t turn negative.

 

As an aside one of my former Tsinghua students who graduated two years ago and went to work for China Mobile came by my office to see me today.  He told me that he and one of his classmates had just quit their jobs to start a company that reads and tracks bar codes.  They expect to sell their product to big retailers.  They received about RMB 1 million (about $150 thousand) from a Taiwanese investor to use as their start-up capital, and in exchange the investor received 40% of the company.  In one year, the investor may consider putting up another RMB 2-3 million (I don’t know on what terms).  The company currently has ten employees.  It doesn’t take a lot of money in China to fund a start-up.

 

The same Xinhua report said that of the recently graduated college students that found jobs this year, a little less than one-half of 1% started their own businesses.

SAT 3 NOV 2007

Oil price hike By Michael Pettis

Yesterday (this entry was written two days before I was able to get it published, thanks to the damned firewall) the prices of diesel and gasoline were raised by almost 10% and I believe the government is also planning raise the price of natural gas.  This was the first price hike since May of last year.  Obviously that should affect prices for a number of other products and services that are currently frozen, most obviously transportation and maybe electricity.  According to NDRC, the gasoline price increase could push up headline CPI by 5bps, which suggests, using a rough back-of-the-envelope calculation, that gasoline prices comprise 5% of the CPI basket.

 

The real impact on inflation is not likely to be so easy to calculate.  I guess there are at least three ways it can affect CPI prices.  The first, and most obvious, is by increasing the direct cost of any product that uses oil in its production or transportation, which is to say the direct cost of almost everything.  The second is its impact on profit margins – will rising costs force producers to squeeze their profit margins to maintain market share or will it force them to raise profit margins to protect themselves from increasing oil-price uncertainty?  Finally it may affect inflationary expectations, which is probably the thing that most worries the authorities.

 

My guess is that the next set of high CPI inflation numbers will be dismissed as the consequence of another “one-off” price increase (like with food in earlier months) that won’t really matter for underlying inflation.  The problem with this reasoning is that this particular increase is not a one-off reversible phenomenon but is rather the partial uncovering of previous hidden inflation.  This wouldn’t matter too much if inflation were wholly a consequence of a temporary and reversible increase in food prices but, as I have explained elsewhere, I am not very comfortable with that explanation.  It is still too early to say if we have seen a reigniting of inflation in China, but none of the numbers are comforting.

 

Two days ago I mentioned that oil had traded down from Monday’s record high of $93.80 to $89.75.  Not for long.  Today Bloomberg says it traded at $95.52.  Rising oil prices are increasing demand for biofuels, which has also driven up the price for soybeans and corn.  Bad news for China, but on the other hand wheat is up only a little after its biggest monthly fall in five years.

SAT 3 NOV 2007

RMB appreciation is speeding up By Michael Pettis

According to a Bloomberg article today, the RMB was up 0.56% last week, reaching 7.456 to the dollar.  This may not sound like a lot if you trade dollar/euro, but it is easily the biggest one-week jump in the US dollar value of the currency since it was suddenly revalued by 2.1% in July, 2005.  According to a Bloomberg article, RMB forward contracts imply a price of 7.38 by the end of this year and 7.25 by the end of the first quarter.  The article did not list the contract expiration date or a more precise RMB value, so my calculations may be slightly off, but this implies a 6.4% annual appreciation between now and the end of the year and a 7.0% annual appreciation between now and the end of 2008’s first quarter.  Implied annual appreciation during the first quarter of 2008 is 7.3%.

 

Two reasons are generally given for the increase in appreciation rate, and both probably are true.  The first, and more cynical, reason is that there will be a meeting later this month between Chinese finance officials and their European counterparts, along with a meeting between France’s President Sarkozy and President Hu, and everyone expects the currency to be a very important topic of these meetings.  As they often do before such discussions, the Chinese authorities may be allowing the currency to appreciate to help deflect some of the expected anger.  One of the claims much beloved of journalists and China-watchers is that foreign pressure on Chinese authorities is almost always counterproductive, a claim about which I am extremely skeptical.

 

The second reason for the more rapid rise in the currency is that the inflation scare is ringing serious alarm bells in Zhongnanhai (the leadership compound), even while publicly the authorities still insist that inflation is a one-off temporary food thing.  Given the anxiety, it is striking to me that fuel prices were raised by nearly 10% last week and that there are rumors that other controlled prices may also rise.  This can’t help but feed into inflationary expectations.  I think the only thing that can easily explain the timing of such rises must be that the costs of the subsidies must be higher than the authorities are willing to support, although perhaps there is also a sense that they should get all the bad news out of the way as quickly as possible.

 

If market assumptions are correct and the RMB does begin to appreciate at 7.3%, with bank deposits yielding 3.8% you can earn 11.4% in US dollars if you can smuggle money into China and deposit it in a bank.  Even the most intrepid of my hedge fund friends in New York wouldn’t sniff at those kinds of returns, especially since the biggest risk is upside risk – a sudden maxi-revaluation.  There’s the problem – an obvious danger of speeding up the appreciation rate is that it might set off another wave of speculative inflows, thus pushing monetary conditions even more out of whack.  Poor PBoC – dammed if they do, damned if they don’t.