Raphael Stevens

GLOBAL INVESTORS are all too aware of the discount on the valuations of mainland firms as a result of Xi Jinping’s aim to lower leverage, house prices and inequality in China. Borrowers, for their part, must contend with a “Xi premium” on sorely needed capital. The Chinese leader’s policies may have led to a perilous credit crunch for many companies, especially property developers, in global markets.Regulators have shaken the foundations of China’s property market by toughening up on the amount of leverage developers can take on. This has pushed Evergrande, a home builder with more than 1,000 projects across China and $300bn in liabilities, towards collapse. It has missed five payments on offshore-dollar bonds in the past month. Several rivals have followed suit. Fantasia defaulted on offshore bonds on October 4th. Sinic Holdings said on October 11th that it would probably default soon. Modern Land and Xinyuan Real Estate are hoping to delay payments on offshore bonds.This wave of distress has led to a crunch in the offshore junk-bond market. Spreads (ie, yields compared with the risk-free rate) have reached nearly 17 percentage points, the widest gap on record. The market has for the most part shut to developers hoping to refinance their debts in October, says Sandra Chow of CreditSights, a research firm. One investment manager at a global institution says even non-property companies are being priced out, noting that “this is the definition of contagion.”The problems run much deeper than the string of missed payments. One fear is that Chinese authorities are pressing companies to ignore the interests of creditors and to sell offshore assets and siphon cash back home, in a desperate attempt to ensure that unfinished properties that have already been sold to Chinese people are completed. The leading theory among investors goes that Evergrande is buying time to prevent its offshore assets being frozen by offshore creditors. A “privately negotiated” resolution on a yuan bond was announced on September 22nd in order to prevent an instant cross-default on dollar bonds. Although the group has since missed dollar-bond payments, a 30-day grace period gives the group until October 23rd before it is deemed to be in default and creditors can move to seize its offshore assets. In the meantime, it is selling all it can, including a large stake in its property-services unit and its offices in Hong Kong.Other groups may be considering a similar strategy. In recent weeks developers such as Fantasia and Sinic have been reluctant to pay offshore coupons. Some instances have surprised investors, suggesting that companies may be able but not willing to make these payments, says Arthur Lau of PineBridge, a Hong Kong-based investment manager.If such behaviour is tolerated, or even encouraged, by the authorities, the impact could be devastating for the $1trn market for dollar bonds issued by Chinese companies. More defaults could come if yields stay high. Having crushed many private conglomerates that sought to buy overseas assets, and impeded Chinese share sales in New York, Mr Xi may now be putting his stamp on the offshore-bond market. ■This article appeared in the Finance & economics section of the print edition under the headline “Xi’s premium” More

IT TOOK 24 days and seven bureaucratic steps to start a business in Beijing, according to the World Bank’s report on the ease of doing business in 2017. But an investigation released last month concluded that the bank’s leaders, including Kristalina Georgieva, its former second-in-command, had pressed staff into doctoring the report to flatter China. The allegations left Ms Georgieva fighting to save her current job as head of the IMF. On October 11th the fund’s board finally decided her fate. The evidence, it said, “did not conclusively demonstrate” that Ms Georgieva “played an improper role”. It had taken almost 26 days and eight meetings for the board to finish its business. But at the end of it all, she could keep her job.Ms Georgieva, a former EU commissioner, had won the backing of Britain, France, Germany and Italy, the powers that installed her in the first place. The finance ministers of 17 African countries praised her “human touch”, as well as the $30bn the IMF mobilised last year to help the continent in its fight against covid-19. Two former chief economists of the bank (Lord Nicholas Stern and Joe Stiglitz), one of whom has a Nobel prize, also expressed strong support. Mr Stiglitz described the investigation as a “hatchet job”.Arrayed against her in fearful symmetry were two other former chief economists of the bank (Anne Krueger and Paul Romer), one of whom has a Nobel prize. She also had to win over America’s Treasury, led by Janet Yellen. It was under pressure from both sides of Congress, which are united in alarm about China’s growing global influence. In a call with Ms Georgieva on October 11th, Ms Yellen said there was not now “a basis for a change in IMF leadership”, but that the investigation raised “legitimate issues” and that the Treasury will “evaluate any new facts or findings”. (Investigators are still working on a report for the bank’s human-resources department on potential misconduct by former or current staff.)Ms Georgieva also benefited from the perception that the changes made to the report in 2017 were mere judgment calls. But a separate investigation by the bank released in December 2020 established that the tweaks were, in fact, not judgment calls but errors. To take one example: the seven steps and 24 days required to start a business in Beijing had been incorrectly cut from nine and 26 at the last minute.The manipulation of the data in this report and the one published in 2019 was bad enough that eight World Bank staff members eventually blew the whistle, triggering the investigation. Both the fund and the bank will have to ensure future whistleblowers feel protected enough to raise the alarm earlier. Ms Georgieva will have to prove that she is not a pushover for the fund’s bigger members and can insulate its technical judgments from politics. The fund is supposed to review the voting structure of its board by the end of 2023. It is hard to imagine Ms Georgieva persuading America to back any redistribution of votes to China, as the country’s growing economic weight would warrant.If Ms Georgieva feels ill-treated by the bank, she may get the last laugh. Even before she took over the fund, it was encroaching on the bank’s turf, tackling issues such as inequality, climate and gender. Its response to the pandemic demonstrated its ability to lend more money, faster than the bank possibly can. Insiders share a joke loosely inspired by an old French quip about a divided Germany. Is Ms Georgieva unhappy with the bank? On the contrary. She loves it so much she would be glad to see two of them—the one she used to work for and the institution she is, still, leading. ■For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter.This article appeared in the Finance & economics section of the print edition under the headline “The International Monetary Bank” More

FROM ENERGY and used cars to wages and shipping, the list of factors pushing up American inflation is growing fast. Could housing be next? According to figures published on October 13th, the consumer-price index (CPI) rose by 5.4% in the year to September. Its shelter component increased by 3.2%, up from 2.8% in the year to August. And it has further to run.Shelter has the biggest weight in the CPI, making up 32% of the basket of goods and services used to construct the index. The component is broken into two main buckets: regular rents paid by tenants, and the imputed cost of living in owned homes. Although house prices rose by 20% in the year to July, they do not feed directly into the CPI. That is because statisticians treat home purchases as investment rather than consumption. Instead they capture homeownership by estimating “owners’ equivalent rent”, the amount an owned property could collect based on leased ones nearby. The rental market, therefore, is what drives shelter inflation.For much of the pandemic both rents and shelter inflation were depressed. But there are two reasons to think the latest pickup in shelter costs will continue. The first is the expiry of the government’s eviction moratorium. The policy had helped renters stay in their homes in 2020, even as lockdowns meant some were unable to work. Many tenants also negotiated lower rents during that time. Now that the moratorium has lapsed, Goldman Sachs, a bank, expects about 750,000 evictions by the end of year. That could lead to a jump in rents. The largest rises occur when a new tenant moves in, says Randal Verbrugge of the Federal Reserve Bank of Cleveland. Rents for new leases are up by 17% compared with what the previous tenant paid, suggests RealPage, a rental site.The second reason why shelter inflation might rise further is that market prices feed through to the inflation figures only slowly. Landlords tend to charge more rent when the value of their property goes up, but with a lag. Rises in new rents also take time to appear in consumer prices, because leases tend to last a year, and the CPI samples rents only every six months or so. President Joe Biden’s Council of Economic Advisers estimates that a one-percentage-point increase in house-price inflation leads to a rise of 0.11 percentage points in the shelter component in 16 months’ time.A timely measure of rents, published by Zillow, a property site, is up by around 10% on the year. Further rises could follow as more new leases are signed. Laura Rosner-Warburton of Macro Policy Perspectives, a research firm, expects shelter inflation to climb to 4-6% by the end of 2022. That would contribute 1.3-1.9 percentage points to headline inflation, twice its average contribution in the decade before the pandemic. The next inflationary force could be home-grown. ■For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter.This article appeared in the Finance & economics section of the print edition under the headline “Rental resurgence” More

A HIGHLY SKILLED workforce, harmonious labour relations and restrained wage growth: all have long underpinned Germany’s economic success. But, as the recovery from the ravages of covid-19 continues, the three pillars are looking wobbly. A shortage of skilled workers is becoming more acute. Pay is rising against the backdrop of higher inflation. And some disgruntled unions are even threatening to strike.Average wages in Germany rose by 5.5% in the second quarter, compared with the previous year. That may in part reflect a base effect: pay fell by 4% in the same period in 2020, when the economic shock from the pandemic hit. Still, workers today are in their strongest position in 30 years, says Gabriel Felbermayr of the Kiel Institute for the World Economy, a think-tank. Bosses are chasing after skilled staff in particular. Automation and migration cannot make up the shortfall, says Carsten Brzeski of ING, a bank.Trade unions are not shy about using their increased power. “We are demanding a 4.5% pay increase for wood and plastic workers immediately, plus extra early-retirement funds,” says Frederic Striegler of IG Metall, Germany’s biggest union. Industry bosses are offering an increase of only 1.2% next year, and 1.3% the year after. That’s not enough, says Mr Striegler, as it will not compensate workers for inflation. Consumer prices rose by 4.1% in September, the highest rate in 28 years (though some of that reflects one-off factors, such as a temporary value-added-tax cut in 2020).Unions used to prefer preserving jobs to securing pay rises, and so tended to come to an agreement with bosses who were unable to afford higher wages. Things are now more fractious. Workers at Carthago, a maker of motorhomes, went on strike this week, demanding a fair share of a surge in profits from booming demand for caravans. More strikes are planned at other makers of caravans and furniture.The boss of IG Bau, a union representing some 900,000 construction workers, warned that it would call its first nationwide strike in 20 years if employers did not meet demands for a wage increase of 5.3% next year, as well as higher payments for travel to sites and a pay rise for east German construction workers to match rates in the west. Germany’s 16 states are in talks with unions about higher pay for more than 2.3m public-sector workers. Unions are demanding a 5% pay increase, with a rise of at least €150 ($173) a month for the least-paid and of €300 for health-care workers.All told, an average wage increase of 5% next year seems “realistic”, reckons Mr Felbermayr. Pay in industries that rely on skilled workers may rise by even more. But the increases will not fan inflation further, at least not in the short term, says Mr Brzeski. Even after the rises seen so far this year, real incomes are still below pre-pandemic levels. And most firms in most industries can afford reasonable pay increases, as the state shouldered a large chunk of the cost of the pandemic. Yet staff shortages may well return as the population ages: the supply of labour is set to dwindle from 2023. Restoring harmony between workers and bosses could be a tall order.For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter.This article appeared in the Finance & economics section of the print edition under the headline “Hard bargains” More

THE HISTORY of modern finance is littered with ideas that worked well enough at small scale—railway bonds, Japanese skyscrapers, sliced-and-diced mortgage securities—but morphed into monstrosities once too many punters piled in. When it comes to sheer size, no mania can compare with that for passive investing. Funds that track the entire market by buying shares in every company in America’s S&P 500, say, rather than guessing which will perform better than average, have attained giant scale. Fully 40% of the total net assets managed by funds in America are in passive vehicles, reckons the Investment Company Institute, an industry group. The phenomenon warrants scrutiny.Index funds have grown because of the validity of the core insight underpinning them: conventional investment funds are, by and large, a terrible proposition. The vast majority fail to beat the market over the years. Hefty management fees paid by investors in such ventures, often around 1-2% a year (and more for snazzy hedge funds), add up to giant bonuses for stockpickers. Index funds, by contrast, charge nearly nothing (0.04% for a large equity fund) and do a good job of hugging their chosen benchmark. Given time, they almost inevitably leave active managers in the dust.“Trillions”, a new book by Robin Wigglesworth, a journalist at the Financial Times, chronicles the rise of passive funds from 1960s academic curiosity to 1970s commercial flop and then runaway success in the 2000s. It estimates that over $26trn—more than a year’s economic output in America—is now lodged in such funds. That is more than enough to set nerves jangling, given high finance has in the past built structures that turn out to be too big to fail.Mr Wigglesworth, while broadly celebrating this passive revolution, also lays out where the pitfalls might lie. An obvious one is that index funds hand power to the companies that compile the indices. Once-dull financial utilities that reflected the performance of markets, such as MSCI, S&P and FTSE, now help shape them instead. Including a company’s shares in an index can force investors around the world to snap them up. The power of the index is indeed a potential shortcoming. But by and large the weakness is obvious enough for regulators and investors to guard against it.Another concern is corporate governance. BlackRock, State Street and Vanguard, the three titans of passive investing, together own over 20% of large listed American firms (among other things). Although one person’s vote makes no difference, active managers who pick shares in a handful of companies will push for them to be well-run. Passive investors whose portfolio includes several hundred names might not be so fussed. That is worrying, given they could control the outcome of many a boardroom spat.Passive giants respond that they are attentive owners, with staff dedicated to prodding the management of the companies they own. Better yet would be for their power to be diffused more widely. That is happening: BlackRock, which on October 13th announced it now manages $9.5trn in assets, plans to hand over some proxy-voting rights to the investors in its funds. This might also alleviate another concern, that companies owned by the same mammoth passive fund will not compete as energetically, lest their success damage other holdings in their shareholders’ giant portfolios.The biggest gripe of asset managers is that tracker funds free-ride on stockpickers’ hard work. Even mediocre active funds, taken together, help direct capital to worthwhile companies (and away from poorly run ones). Inigo Fraser Jenkins of Bernstein, a broker, once decried passive investing as “worse than Marxism”: Soviet planners did a lousy job of allocating resources to promising ventures, but at least they tried. Index funds, however, revel in their passivity.What to make of this risk? A market dominated by passive investors would indeed kick up concerns over whether capital is going to the right places. But domination is far from the case today. Active managers still play a big role in markets. Retail investing is vibrant (if sometimes over-exuberant). Private-equity firms keep public and private valuations broadly in line. Venture capitalists are flocking to startups.Furthermore, the hypothetical flaws of passive funds must be set against the very real savings investors have made since they arrived on the scene. The effects of rising passivity are worth pondering, but not reversing.For more expert analysis of the biggest stories in economics, business and markets, sign up to Money Talks, our weekly newsletter.This article appeared in the Finance & economics section of the print edition under the headline “Passive aggressive” More

Here are the numbers: Earnings: 85 cents a share vs the 71 cents a share estimate of analysts surveyed by Refinitiv
Revenue: $22.87 billion vs the $21.8 billion estimate
Shares of the bank climbed 2.8% in premarket trading.

Bank of America posted third-quarter results on Thursday that exceeded analysts’ expectations as it benefited from better-than-expected loan losses and record advisory and asset management fees.
Here are the numbers:

Earnings: 85 cents a share vs the 71 cents a share estimate of analysts surveyed by Refinitiv
Revenue: $22.87 billion vs the $21.8 billion estimate

Profit surged 58% to $7.7 billion, or 85 cents a share, as revenue climbed 12% to $22.87 billion. Results were helped by a $1.1 billion reserve release that led to a $624 million boost after chargeoffs.
Shares of the bank climbed 2.8% in premarket trading.
“We reported strong results as the economy continued to improve and our businesses regained the organic customer growth momentum we saw before the pandemic,” CEO Brian Moynihan said in the release. “Deposit growth was strong and loan balances increased for the second consecutive quarter, leading to an improvement in net interest income even as interest rates remained low.”
Net interest income, a closely watched figure for banks, jumped 10% to $11.1 billion, exceeding the $10.6 billion StreetAccount estimate.
Investors had wanted to see loan growth improve from a weak first half of the year because that helps banks produce more interest income. Indeed, loan balances increased 9% on an annualized basis from the second quarter, driven by strength in commercial loans, the bank said.

More loan growth is expected from here, Moynihan told analysts Thursday in a conference call.
Like rival JPMorgan Chase, Bank of America posted strong results in investment banking, wealth management and equities trading businesses.
Investment banking fees rose 23% to $2.2 billion, helped by a 65% surge in advisory fees to a record $654 million. Analysts had expected $2 billion in investment banking revenue.
The bank’s trading operations exceeded expectations for the quarter. Bond trading revenue dipped 5% to $2 billion, edging out the $1.93 billion estimate. Equities trading surged 33% to $1.6 billion, roughly $150 million higher than expected.  
The bank’s wealth management division posted a 17% increase in revenue to $5.3 billion, driven by record asset management fees of $3.2 billion.
Like other lenders, Bank of America set aside billions of dollars for credit losses last year, when the industry anticipated a wave of defaults tied to the coronavirus pandemic. Banks have been releasing some of those funds when the losses didn’t arrive, and analysts will be curious how much of a boost that dynamic will have in the second half of the year.
They will also likely ask CEO Brian Moynihan about succession planning after his most senior deputy, chief operating officer Tom Montag, announced his departure. Last month, Moynihan announced a sweeping management overhaul, including a new finance chief, technology head, general counsel and chief administrative officer.
Shares of Bank of America have climbed 42% this year before Thursday, exceeding the 36% gain of the KBW Bank Index.
On Wednesday, bigger rival JPMorgan posted results that beat expectations, driven by a $1.5 billion boost from better-than-expected loan losses. On Thursday, Morgan Stanley topped expectations as the firm posted record results in investment banking and asset management.
This story is developing. Please check back for updates.

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