Market swoons and finger pointing, but no one’s really getting it.


In the late 70’s and 80’s almost any event, economic or otherwise, was attributed to a single culprit: Japan. We know how that one went. Today’s equivalent is China – and I hasten to add I have no clue how it’s going to end; but it doesn’t matter. In both historic contexts there was/is some truth in the attribution; analytically, you can construct strong rationales connecting the dots. But more often than not, both then and now, the regional obsession lies with the unstable psychology of investors and our innate inability to accept fate in its many configurations. It would seem we just never learn.

If I had to draft a super-short global state-of-the-union speech today, I would say something like this: “In the context of exceedingly loose monetary policy, we have over the last five-six years witnessed growing pricing anomalies responsible for high debt formation, extended market valuations, currency juggling, investors’ yield hunger, and declining productivity. This is a mess.

Perhaps we are reaching a critical point of sorts. In complex adaptive systems, such as markets and economies, we know some of the linkages between the variables but often we don’t know – despite computational determinism – the exact direction or path the variables will take. Ex post, meaning after you’ve observed the outcome, it is easy to find the catalyst of the result. In this context China’s recent events become relevant; one in particular, which could be the proverbial last grain of sand.

It is not the country’s industrial activity (the PMI will tell you it has been in a “slowdown” mode, frequently in contraction, for over 5 years now); it is not the GDP growth either (and how would you know what it is anyway? When a country as big as China publishes their GDP numbers by the second or third week after quarter-end, you know it could be anything; for wide-ranging review of what GDP is, here’s an excellent piece by John Mauldin); it’s not even the move to devalue the Yuan that “roiled” the markets (for what? 3-4%?), or the uncertainty surrounding the political leadership. But it is the handling of the stock market debacle – even though here too not for the reasons most mention. What the failure to stem the decline of the Chinese domestic stock market means is simple: we are running out of monetary policy options to sustain stock market rallies. In other words, the movie we’ve been watching since 2009 is drawing to an end.

It’s entirely possible that in the throes of an overvalued and overconfident market new highs will be reached. We can oscillate for weeks, if not months, between the illusion of a Fed salvage operation and the terror of being abandoned at sea. But think about it: would you really buy stocks today – even for the “long-run” – if you knew central banks can’t help you any more?

That’s the meaning of China.

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