As most of us are already aware of, the US Bureau of Labor Statistics have recently announced that unemployment has fallen yet again to 5%, and amidst rising real wage prices, has signalled to Yellen and the Fed that the time for a hike in interest rates would be fast approaching.
While we are already aware of the domestic impact of the news, international markets have also responded accordingly. According to the financial times, Chinese and Japanese stocks have rallied to this news. In particular, Chinese stocks had an uplift due to the lifting of the regulatory ban on A-shares. China’s Shanghai Composite was up 2.3% to 3,670.
At the same time, margin lending for buying stocks in Shanghai has also risen in response to this news. Margin lending was actually temporarily banned in China in June, as a result of the equity market crashing in June as many Chinese companies were financially levered beyond their capabilities. When Chinese markets started crashing, this worsened the leverage of a lot of investors, and the government had to place a temporary ban on margin lending.
With the increasing trend of borrowing from the government to invest in equities again, can we really believe that the events that unfolded in the A-share market will not happen again soon? Expectations that the fed will increase interest rates in the coming months have already been priced in accordingly to the Asian markets, and hence any news otherwise may have an adverse impact on these economies. With risk-loving Chinese investors becoming highly levered again, we could potentially see another instance of the mighty A-share crash in June.
However, I feel that the probability of this happening is low. Unemployment in the US has reached 5%, which is almost as low as pre-crisis levels of 4.8%. This suggests that our unemployment rate is very close to the natural rate of unemployment, and further, the upward squeeze in real wages signals that the labor market is running out of slack. The fed will now have to increase interest rates to prevent the onset of inflation, and I do believe that Yellen will make the right decision by the next two months.
Ryan Lee, Class of 2017