A case can be made that the most pressing monetary policy issue globally is the timing not of Fed tightening but rather of PBoC easing.

The mainstream view at the start of the year was that China would continue to lead a global economic recovery, resulting in a further withdrawal of monetary and fiscal policy support.

Chinese economic data have disappointed consistently – including May activity numbers this week – but the consensus has maintained a forecast of policy tightening, albeit later than originally expected.

The “monetarist” view, by contrast, is that the PBoC had already moved to a restrictive monetary stance during H2 2020. This was reflected in a money / credit slowdown late last year, which has fed through to a loss of economic momentum in H1 2021.

The PBoC was judged likely to recognise rising downside risks by easing policy by mid-year. Money market rates have been allowed to drift lower since February but May monetary data suggest that policy adjustment has been “too little, too late”.

Six-month growth rates of money and credit fell further last month, signalling likely continued nominal GDP deceleration through year-end, at least – see chart 1.

Chart 1

Weakness is more pronounced in real terms: narrow money has barely kept pace with consumer prices over the last six months and has fallen by 5.5% relative to producer prices – chart 2.

Chart 2

The liquidity squeeze is focused on companies. M2 deposits of non-financial enterprises have stagnated over the last six months, while M1 deposits have fallen – chart 3. Nominal weakness is comparable with 2014 and 2018 – ahead of major economic slowdowns – but real money balances are under greater pressure now, reflecting surging input costs.

Chart 3

The bias here has been to give the PBoC the benefit of the doubt and assume that easing would occur early enough to head off serious economic weakness. Increased pessimism is warranted unless action is forthcoming soon.