China’s reserves grew $40.3 billion in May

I just got back from my one-week trip having taken a very early morning flight, so I am a little too tired to write much for today’s entry, but I couldn’t let pass a media report earlier this afternoon that claims that China’s foreign currency reserves at the end of May reached $1.797 trillion..  Although these media reports are unofficial, they have in every case that I can think of been subsequently confirmed by the PBoC, and these are very likely to be accurate numbers.

If so, this means that China’s foreign currency reserves grew by $40.3 billion in the month of May.  After the blowout $74.5 billion for the month of April there is the obvious temptation to think this is a relatively healthy number for China’s reserve growth, but it isn’t.  This is a huge number, materially above the $38.2 billion monthly average for 2007, a number that at the time was almost impossible to believe.  May’s $40.3 billion only seems small because monthly reserve growth year to date has averaged $53.7 billion, and it is worth reminding readers that, like the headline reserve growth numbers for the rest of this year, May’s number almost certainly significantly understates the true growth in reserves.

To recreate the chart I have been running every month, a reasonable and very plausible description of the composition of inflows to China’s PBoC this year looks like this:

To explain the chart, the trade surplus and FDI numbers for May were reported as $20.2 billion and $7.8 billion respectively.  Interest income is broadly the same as last month and I think currency gains in May were quite low (I will check with my friend Logan Wright, who tracks this better than I do).  There was another 50 bps hike in minimum reserve requirements for banks, and probably about $22 billion of that was redenominated into dollars, thereby pulling headline reserve growth down, although the monetary impact is nil.

Add and subtract the relevant numbers and we are left with about $27 billion of unexplained inflows into China for the month of May.  This is not necessarily all hot money, but it is a good proxy for hot money, and anyway it is a pretty safe bet that a significant part of FDI and the trade surplus really consists of disguised hot money. 

Over the year, the unexplained part of total adjusted inflows, including the redenomination of reserves and the transfer to the CIC, may amount to as much as a whopping $257 billion, which is only slightly less than the headline growth in reserves.

Surprisingly enough, or perhaps not so surprising given the amount of pain many banks are reported to be feeling, according to today’s Bloomberga recent survey of Chinese banks by the PBoC suggests that Chinese banks believe monetary policy is too tight:

Chinese bankers say monetary policy is too tight and their expectations for interest rates to rise have eased, a central bank survey showed.  Policy is “tight” or “too tight,” according to about two-thirds of 2,900 heads of financial institutions surveyed by the People's Bank of China this quarter.

According to the survey the banks regard current levels of interest rates – well below zero in real terms – as appropriate.  These kinds of complaints are likely to make it difficult for the PBoC to raise rates, especially when it seems that consensus is again shifting to concerns that an economic slowdown is a much greater threat than monetary excess.