Cash is flowing out of Emerging Markets and China leads the way
The following collection of charts illustrates the dramatic change in the flow of funds in and out of Emerging Market economies. (See below for data sources) What are “flows”? Trade surpluses or deficits, investments of various kinds, and cross-border movements of cash by companies and individuals. Why does this matter? Emerging Markets have produced more than half the growth in the world economy since 2008. If that growth slows, who picks up the slack?
The first chart simply shows the net flow of cash and investments into Emerging Markets (for over 20 years) and then out—since 2014. After hundreds of billions of dollars flowing into these fast growing economies since the early 1990’s, the abrupt change since 2014 is the main reason we believe that the focus of a possible bear market will be in the Emerging Markets and not the United States.
From 1990 until 2014 cash flowed into emerging markets mostly in the form of investments.
So how much of that flow depicted above comes from China? The next chart gives us some idea—most of it. The blue bars on this chart show us the flows in and out of all Emerging Markets except for China. The red indicates flows in and out of China.
The flows out of China in 2015 represent a significant departure from the pattern since 2000.
Since the beginning of 2014, China’s massive stash of cash, which peaked at $4 trillion, has fallen by $800 billion as shown on the chart below. (Interestingly, China’s holding of US Treasuries – the red line – has remained steady during this drawdown.)
Shockingly, this negative cash flow has occurred during a period of record breaking trade surpluses for China. Without those surpluses, this picture would look much worse—which brings us to the next chart.
China’s reserves have been falling since 2013. This despite running large trade surpluses.
The chart above shows us the amount of foreign exchange reserves in China and the chart below illustrates the annual flows out of China. This one adds the trade surplus to the drawdown in China’s reserves to give us some idea of how much cash has actually left the country in the last 18 months—more than $1 trillion.
This chart shows us the actual 12 month change in cash moving in and out of China’s.
The picture we have drawn here is a gross simplification of a nightmarishly complex situation. No one really knows precisely where the cash is going, who is moving it, or how. But it is clear that a major change in direction has taken place and the magnitude is such that worrying about the reliability of the statistics is really beside the point.
For a very long time, China enjoyed an incoming flow of investment from the Developed Markets as well as expat Chinese in Taiwan, Singapore, and Hong Kong. In the process, well over 100 million Chinese citizens became wealthy. These charts suggest strongly that those outside sources of investments have slowed (if not reversed) and many of the newly rich in China are moving cash out of the country.
Where will the money go? Other Emerging Markets? Europe? Japan? Maybe. But to us, the USA seems the most likely safe haven.
Daniel A. Ogden