Amy Xie Patrick: China, the US, and the value of uncertainty

Policy effectiveness doesn’t always come wrapped in transparency or even democracy, observes Pendal’s head of income strategies AMY XIE PATRICK

• Less policy guidance can be a good thing
• Focus on getting it right rather than always being right
• Find out about Amy Xie Patrick’s Pendal Monthly Income Plus fund

INVESTORS were witness to a tale of two central banks in early May.

The US Federal Reserve left policy unchanged, resisting calls for rate cuts despite growing political pressure.

Meanwhile, the People’s Bank of China (PBoC) delivered another dose of stimulus – cutting policy and reserve requirement rates and co-ordinating with regulators to prop up equity markets.

One central bank faced market criticism over its non-committal guidance.

The other moved swiftly and silently, without needing to justify its decision.

This divergence is not just a curiosity for anyone managing money through this phase of the economic cycle.

It’s a study in contrasts, a reflection of deeper structural differences, and a reminder that “policy effectiveness” doesn’t always come wrapped in transparency or even democracy.

Trump, Powell, and the art of political pressure

The Fed’s decision to hold rates came against a backdrop of renewed presidential frustration.

President Trump has been ramping up criticism of Fed chair Jerome Powell, calling him “Mr Too Late”, threatening to fire him and pushing hard for rate cuts.

This isn’t new behaviour from Trump, of course. But it’s gaining urgency for market participants as US sentiment sours and the S&P 500 appears more fragile.

Despite this, the Fed held its line.

I, for one, am not losing sleep over questions of the Fed’s independence. It’s too soon to be doubting America’s institutional integrity.

Moreover, Powell has shown the discipline to tune out political noise and stick to his mandate. Rather than guess which of inflation or growth will be the larger problem, he has chosen to “wait and see”.

These are very frustrating words for the market to hear.

The real lesson here is not about Powell. It’s about the limits of anyone’s ability to forecast far into the future and the risks we create when central banks try too hard to meet markets where they are.

China’s policy co-ordination

Unlike the Fed, the PBoC rarely emphasises the risks to inflation or employment.

In fact, it has never felt the need to publicly justify its policy decision.

The combined effect of the PBoC’s policy decisions will inject more than RMB 2 trillion (roughly $US280 billion) into the Chinese banking system.

Alongside market stabilisation and support measures announced by financial regulators, this will provide a supportive backdrop for domestic business activity.

Also unlike the Fed, the PBoC has never been independent in the Western sense. It functions as an arm of the state.

Nevertheless, this lack of independence hasn’t undermined the credibility of China’s bond market.

Quite the opposite. Since the pandemic, Chinese government bonds have behaved more consistently as a defensive asset than US Treasuries have, offering shelter during periods of global risk aversion and domestic slowdown.

I’m not suggesting we abandon democracy for technocracy.

I certainly would not advocate the removal of central bank independence in the West.

But from a markets perspective there’s something to be said for the capacity to act decisively, without being bound by the optics of forward guidance or the paralysis of public scrutiny.

This recent demonstration of China’s policy machine to be able to act quietly, decisively and in a coordinated fashion must be a source of envy for Mr Trump.

Borrowing from the East?

In some ways, the current US posture feels like a clumsy imitation of China’s long-practised state capitalism.

Trump’s tariffs are like a type of self-harm aimed at reorganising America’s industrial structure – much like Beijing’s Three Red Lines policy targeted the painful default and deleveraging of the Chinese property sector.

Trump’s tariffs are asking US consumers to share the pain while US manufacturers collect themselves under the new order – much like Beijing asked Chinese households to put up with low returns on their savings so cheap funding could be channelled towards industry.

The difference is that no votes are needed for President Xi to stay in power, whereas President Trump needs ongoing support.

The latest US manufacturing surveys already see much handwringing from producers over how the tariff pain could be shared through their supply chains.

The latest US consumer surveys point to sentiment falling through the floor.

While sentiment doesn’t always translate into economic outcomes, it sure provides fodder for those lobbying against the policy chaos in Washington.

Even though Trump claims he’s “not even watching the stock market”, policy sensitivity to the performance of equity markets likely remains far higher for his administration than it has ever been for China.

For the latter, it has also been thanks to a less-developed financial system and lower ownership of local share markets by private households.

The efficacy for Trump to borrow pages out of China’s policy playbook will always be limited by the sharp dichotomy of the two nations’ political constructs.

It is hard to argue that short-term policy efficacy is worth the cost of fundamental democracy and liberty.

Is guidance over-rated?

Perhaps the most contrarian, yet valuable takeaway is that less policy guidance may be a good thing.

For years, central banks have fallen over themselves to signal intent, reassure markets, and smooth volatility.

Pendal’s internal analysis of the Fed is that in the near term, it tries very hard not to surprise the market expectations for each policy meeting.

However, excessive clarity creates a false sense of security.

In Australia, we only need rewind to the RBA’s steadfast guidance through most of 2021 that there would be no need to lift interest rates until 2024.

By the start of 2024 the central bank had in fact raised interest rates by 4.25 percentage points.

Whenever markets have believed that a central bank’s guidance has removed uncertainty –  or at least truncated the left tail of return distributions – the behaviour of market participants becomes more risk-loving.

In the lead-up to the Great Financial Crisis that looked like the private sector and banking system taking on too much leverage.

Perhaps a little more policy uncertainty and a little less conviction on policy guidance is saving us from bigger troubles down the road – however unsatisfactory that may be for market participants today.

How Pendal’s fixed-interest team navigates uncertainty

It’s of little concern to us whether central banks give us clear guidance with conviction or simply tell us they’re “data dependent”.

Guidance that comes with strong conviction is often priced in by bond markets ahead of time if justified by the economic fundamentals – and creates volatility and trading opportunities if not.

Bonds and equities have both demonstrated that the fundamentals always matter, even though dislocations can occur.

By keeping ourselves focused on the fundamentals we are able to position our portfolios for the greatest likelihood of success.

By avoiding the hard task of forecasting far into the future, we free ourselves from unhelpful narratives that turn out to be false.

By focusing on getting it right rather than always being right, we’re able to preserve the flexibility to change course when the fundamentals change.

Maybe it’s time to stop giving RBA governor Michele Bullock a hard time for wanting to be guided by the data.