Why China’s bear case economic growth will hurt dry bulk stocks (Part 1)

Market Realist

The impact of China’s financial industry

The financial industry is an essential part of any economy. Without a stable financial system—one that supplies liquidity to businesses and individuals and bridges the gap between savers and borrowers—an economy can’t function as efficiently and productively as it could. So a collapse in China’s financial industry would grind its economy to a halt. Because China is an important importer of key raw materials such as iron ore, importing 745 million tonnes (70% of total global shipments) in 2012, changes to China’s economic outlook have a significant impact on shipping demand, which in turn affects the shipping rates of dry bulk shipping companies.

Interbank repo rate

China’s interbank three months repo rate stood at 4.7% on July 16, after staying at 4.8% for the past four days. The rate, expressed in annual terms, reflects the interest that banks charge each other to borrow cash for three months in exchange for securities such as government bonds. High interest rates are generally negative, because they reflect a cash squeeze or cash crunch—a condition of high demand or low supply of cash available in the financial system—just like when people in the United States weren’t able to find money to pay off record interest on their mortgage debt when the housing bubble began collapsing in the late 2000s.

High repo rates also present a risk to the economy because they often mean not enough money is available to flow through the financial system. Without the flow of money, companies that rely on banks to run their daily operations—such as paying suppliers and workers as well as purchasing new equipment—will not be able to use banks’ services as usual. As these bills go unpaid and purchases are postponed, the economy will fall into a recession or weaker growth. This happened back in 2008 once.

Good news

The positive news is that the rate has fallen from a record 13% on June 20, as China expressed openness to fine-tuning its monetary policy on June 21 and injected capital into some banks. But is the risk over? Continue to Why China’s bear case economic growth will hurt dry bulk stocks (Part 2), which will follow later today.

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