For all the importance of China’s subpar recovery, the country's woes are notably absent from the plethora of projections and commentary that flow from the Federal Reserve these days. Judging from recent remarks, there's either no problem or nothing sufficiently grave to prod Chair Jay Powell to hint at switching gears. Give it time.
Such an enormous cog in the world’s commercial and financial ecosystem doesn’t stumble without the pain being spread around. The Fed's mandates for price stability and maximum employment come from Congress, the most parochial of institutions. This hasn't prevented the central bank acknowledging deteriorating conditions abroad and, in some circumstances, pivoting to an easier stance or foregoing hawkish measures. That's been the case on several notable occasions in the past quarter century: the Asian financial crisis, the Russian default that soon followed, Europe’s debt crisis — and Beijing’s poorly-handled currency devaluation in 2015.
There’s slim chance of an immediate replay. Inflation is coming down, but remains too high for comfort. With no sense that the international economy is precipitating an immediate crisis, the Fed is loath to focus on much beyond US shores. Anything that whiffed of China figuring in deliberations would be difficult to justify to lawmakers, for whom opposition to all things China is about the only remaining bipartisan cause. While the Fed sets interest rates independently, it cares greatly about sentiment on Capitol Hill.
Fielding a question on risks to the outlook during his press conference last week, Powell ticked off the strike by autoworkers, the prospect of a government shutdown, higher oil prices, even the resumption of student loan payments. He could have mentioned China or, more euphemistically, stagnating conditions overseas. Powell demurred.
The Fed chair appears to be an outlier among central bankers. (Minutes from the Federal Open Market Committee's September meeting will be released in about two weeks. They may shed light on what was discussed.) The European Central Bank isn't so reticent.
The ECB proceeded with a hike in interest rates this month, while simultaneously making deep cuts to its growth forecasts, citing a dent in international trade. President Christine Lagarde made several references to China in her media briefing. European politicians aren't hiding their unease, either. “The restrictive interest rate environment and the weak global economy — especially the development in China — make it difficult for us as an export nation,” Germany's economy minister, Robert Habeck, said last month.
Germany is right to be worried. The country emerged from recession in the second quarter, though barely. A further contraction is widely anticipated in the second half of the year. The Bundesbank concedes the challenges. But true to historical form, it prefers the ECB fights inflation first. French policymakers are more concerned. Bank of France chief Francois Villeroy de Galhau warned against pushing the economy to breaking point. China is prompting divergent viewpoints in monetary salons far from home.
In Asia, where you might expect anxiety at China's slowdown to be most pronounced, officials have mimicked the Fed's tighter-for-longer approach. China is a headache, for sure, but getting ahead of the Fed is perilous for currencies. Among the worriers is the Reserve Bank of Australia, now under new management. Governor Michele Bullock, who began a seven-year term on Sept. 18, will fret not just about local demand holding up after a series of hikes. She'll have to contend with the southbound trajectory of a major trading partner over the long-term, not just months — something that didn't pre-occupy her predecessors.
China isn't going to collapse overnight. The economy may well grow in the vicinity of 5% this year, in line with Beijing’s target. But it will do so under strain. The rebound that has followed the dismantling of Covid-Zero restrictions has fallen short of expectations; manufacturing struggles, the property market is languishing, and the specter of deflation looms large. Barely a month goes by without reports that a once mighty real-estate developer is at risk of collapse. China has cut borrowing costs and tried to support housing, albeit without a big-bang stimulus along the lines of 2008-2009.
There’s little indication that the US is suffering from international travails. Trade accounts for a relatively small part of the economy, though financial links are more significant. The labor market has slowed — as Fed officials have desired — but is still fairly solid. Economists spent the summer months dropping their calls for a recession. The central bank has given no indication it's prepared to consider a cut. Minneapolis Fed President Neel Kashkari, once regarded as a dyed-in-the-wool dove, anticipates one more hike this year.
So how plausible is it to even think that the Fed might start paying attention to the downturn in China and, even then, whether it should do something about it? Officials have shown they are prepared to reverse course when the news from abroad is bad enough — and US inflation is behaving. We haven't reached that point, but it would be wrong to assume that passivity is firmly entrenched.
The dollar’s surprising ascent suggests notable strains in the global economy, among them disappointing growth including in Europe. Defying expectations it would slip after a massive rally in 2022, the Bloomberg Dollar Spot Index is marching higher, despite losses in US Treasuries. The prefix “king” is once again attached to the dollar. The monarchical status is, to a degree, conferred by bad news elsewhere. The People’s Bank of China is trying to slow the yuan’s swoon, not reverse it. Japanese authorities have been making noises about intervention to support the yen. The pound is hovering near a six-month low and the Swiss franc looks poised for its longest stretch of declines in decades.
Twenty-five years ago, when the US economy was in the midst of an epic boom, then Fed chairman Alan Greenspan grew concerned about the dislocation around the world. The Asian financial crisis still burned, Russia had just defaulted and a swag of Latin American countries were on the brink. In a speech at the University of California, Berkeley, Greenspan extolled the wonders of the American economy before he dropped a bombshell. It just wasn't credible, he said, that the US could remain an “oasis,” removed from the challenges of the world. The objective, beyond signaling a rate cut, was to shake people from their complacency, he wrote in his 2007 bookThe Age of Turbulence: Adventures in a New World:
I don't think my 'oasis of prosperity' remark made much of an impact that day. But the idea was meant to have a long fuse. I wasn't talking about the next six months or the next year. America's isolationism runs so deep that people still haven't let it go. There's always a presumption that since America is better, we should go it alone.
Conditions might not seem bad enough now. If a US recession does happen, the downdraft is likely to be a global affair, not something localized. Somewhere in the bowels of the Fed's austere headquarters on Constitution Avenue, China is stirring. We just aren’t hearing it yet.
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