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Thursday April 29, 2004 - 10:29:41 GMT
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Asia Boom Wobbles, Just Say Wen

Asia Boom Wobbles, Just Say Wen

Signs of confidence in the Asian economic boom has been showing signs of fatigue for several weeks if one took the time to scratch the surface of weakening commodity prices, weakening regional currencies (yen, A$ and NZ$, versus US$). But it was Chinese Premier Wen who blew the cover off the Asian reflation trade that has been so rewarding for investors in the last six to twelve months. In an interview with Reuters, the Chinese Premier indicated he and the government are serious in taking steps to prevent the economy from overheating (some of these steps have already been taken including the raising of reserve requirements for banks). He noted that fixed investment (plant and equipment) was growing too fast. He noted money supply and credit were growing too fast. He noted prices of raw materials and inputs are rising too fast and a source for inflation. And he expressed a determination to take action to check these excesses. Controlling and tightening credit and money supply growth (not revaluing the yuan) was identified as the main steps to be taken on the financial front. To cool the real estate market Wen indicated the government will restrict the conversion of arable land into developed commercial and residential projects. New construction projects also appear to face greater government scrutiny and review ahead and hence fewer new construction projects can be expected. Wen also indicted the government would close down illegal or sketchy real estate development projects. And he said the government will encourage the conservation of resources including land, raw materials and water. Wen also renewed China's commitment to reforming the financial system.

This represented more than a simple tapping of the brakes...more like pulling the safety brake. Nevertheless, watch what China does not what it says. Still for investors long the Asian growth story, namely long commodities, firms that produce commodities, regional currencies, regional stock markets and short regional bond markets, Wen said when. Gold sank to a new low. Crude metals sold off. US stocks slipped markedly. The yen weakened. The A$ fell. The C$ sank (commodity currency). And rest assured Asian stock markets are due for a serious sell-off while Asian fixed income should rally.

Depending on how aggressive China is in reining in the economic expansion, the rippling effects on global growth could be significant. Remember China runs a trade deficit with Asia. Japan and South Korea sell loads into China. So does Australia. And back in the US, the increasingly impatient FOMC may be faced with a fresh if forced dose of patience on lifting the ultra-low Fed funds rate. Part of the comfort level for Fed tightening ahead is the broadening of the global recovery and Asia in particular pulling a good deal of the load.

Ironically at the end of the day, if Wen is too successful in slowing the economy a yuan devaluation may end up being more appropriate than a revaluation. Okay, China growing over 9% is not about to contract or grow even at a relatively sluggish 5% pace. But the notion that the Asia boom bet is one-way is false and the price action in commodities today and to a lesser extent currencies (some stocks) suggests it is time to lighten up on Asia exposure. And the most vulnerable part of the Asia boom trade? Try the Nikkei and Kospi for starters. And perhaps the yen has a shot at the March high near 112.30. A sharp correction in the Nikkei could easily bring this level within reach near-term. Longer-term I still think Japan's recovery will do well even with a significant slowing in the growth rate in China as it is the domestic side of the Japanese economy that is awakening. And with this metamorphosis should come a strong currency.

David Gilmore


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