If we have learned anything from the European debt crisis, it is this: we are truly in a global economy where seemingly small events around the globe can have dramatic and unexpected effects that ripple across the world.
Which brings me to the purpose of this post, and examine what effect a change in Chinese monetary policy could have on the U.S. economy, and more specifically, mortgage rates.
China is on the verge of eclipsing Japan as the second largest economy in the world. In the first quarter of 2010 the Chinese economy grew at a rate of 11.9 percent. The Chinese economy has expanded at a double digit rate in twelve of the last seventeen quarters. Even at the depths of the recession the Chinese economic expansion was at least 6 percent. In 2009, the Chinese government initiated a $600 billion stimulus that further fueled the Chinese economy. Chinese property prices rose at a record rate last month, and prices on consumer goods climbed at the fastest pace in a year and a half.
Last year, there was an 80 percent increase in the amount of residential property sold in China. In 2009, Chinese housing starts increased by 194 percent! Chinese real estate, which has consistently risen in value for decades, has exploded in value over the last few years. Year-over-year housing prices in Beijing increased by 60% in March 2010. Most major cities have seen similar increases, and speculation on housing has been rampant.
However, many people feel the Chinese economy has been growing at a rate that is unsustainable, and some are speculating that Chinese real estate is experiencing a bubble that will burst without some sort of government action. A housing collapse in China could be disastrous to the world economy.
The two most obvious actions that the Chinese government could take in response to the overheated economy are to tighten monetary policy, and/or allow the Yuan to appreciate versus the dollar (the Yuan currently has a managed floating exchange and is not allowed to fluctuate freely versus other currencies).
Here are some possible effects if the Chinese change monetary policy:
- The spread between Chinese bond yields and U.S. Treasury bond yields would tighten. As Chinese bonds become less attractive, demand for U.S. Treasuries could increase. This increased demand could cause bond yields to dip, which in turn could cause interest rates, and mortgage rates to remain at a low level or even decline.
- The Chinese economy slows down, which would in turn cause the global recovery to slow. If recovery in the United States slows down, there will be pressure on the Federal Reserve to delay monetary tightening measures (assuming that inflation does not force their hand). This would also serve to keep mortgage rates low.
- If the Chinese allow the Yuan to appreciate, the effects would likely be less pronounced than from monetary tightening. In addition to other effects, an expensive Yuan would increase the costs of Chinese goods and demand for these goods would drop as a result. It would also dampen the Chinese economy and reduce Chinese demand for U.S. imports. U.S. domestic prices would increase, and could in turn cause a bump in U.S. interest rates, which would cause mortgage rates to increase.
All of this analysis is very speculative, and could change quickly with market conditions, but it will be important to keep one eye on China when evaluating the future of mortgage rates. What do you think? Add your comments below.
Loading ...
