Chinese narrow money growth has rebounded strongly in recent months, suggesting better economic prospects – see previous post. A claim has been made, however, that the surge in the official M1 measure mainly reflects a temporary impact from the local government debt swap programme, implying little significance for the economy or markets. The analysis below does not support this claim.
The debt swap programme involves provincial governments issuing bonds and passing the proceeds to related local government financing vehicles (LGFVs) in order for them to repay bank debt. The claim is that the last stage of this process has yet to occur, so LGFV money holdings have been temporarily inflated. LGFVs are classified as part of the corporate sector in the monetary statistics while corporate demand deposits account for most of the recent M1 strength.
Annual growth of corporate demand deposits rose from 4.6% in June to 16.2% in October – see chart. It is not possible to identify the contribution of LGFV deposits to this surge but a separate series is available for demand deposits of non-financial enterprises, which exclude LGFVs and account for about half of the corporate total. Annual growth in these deposits rose from 2.0% to 18.3% between June and October. It is wrong, therefore, to state that most of the increase in corporate demand deposit growth has been due to LGFVs.
The remaining segment of corporate demand deposits (i.e. the total minus deposits of non-financial enterprises) covers the LGFVs and other government-linked bodies, as well as private financial institutions. Annual growth in this segment rose from 7.1% to 14.2% between June and October. This may reflect monetary and fiscal policy easing as well as the posited debt swap effect.
As previously discussed, the Chinese M1 definition, unusually, excludes household demand deposits, which should be taken into account when assessing narrow money trends. (They are added to the official series to create the “true M1” measure followed here.) Annual growth of such deposits rose from 0.2% to 8.9% between June and October.
To summarise, the narrow money surge reflects stronger growth of household as well as corporate demand deposits while most of the latter pick-up is unrelated to the debt swap programme. Narrow money has been a good leading indicator of the economy in recent years and there is little reason to doubt the current positive signal.
