Cathie Wood's Perspective: The Federal Reserve exacerbates the risk of global deflation, spreading from China to other regions.

Ark Invest founder Cathie Wood recently expressed concerns about China's economic outlook. She believes that the monetary tightening caused by the US raising interest rates recklessly will first impact China and then spread to other regions.

Surprising Deflation in China

Cathie Wood pointed out that the recent significant contraction of currency exports from China is more profound than many economists and strategists realize. Last year, the Renminbi devalued by 15% against the US dollar, which theoretically should have contributed to a 15% increase in the Producer Price Index (PPI) under similar conditions. However, instead, it decreased by 4%.

Producer Price Index (PPI) is used to measure changes in the prices of goods sold by manufacturers. According to data from Investing.com, China's monthly PPI index has shown negative values and declined compared to the same period last year since September.

In other words, the currency contraction vortex from China has approached nearly 20% (15% + 4%), and the recent surge in defaults by Chinese real estate and trust companies has highlighted this.

Since China joined the World Trade Organization in 2001, its actual GDP has grown at a double-digit rate for nearly 20 years. Rapid growth can mask many economic sins, often related to excessive debt and leverage, which are now surfacing in China.

China is exporting deflation in a more profound way than I believe many economists and strategists appreciate. All else equal, the 15% depreciation in the yuan relative to the dollar in the last year should have increased its PPI inflation rate by 15%. Instead it has dropped 4%.

— Cathie Wood (@CathieDWood) August 15, 2023

Why is Currency Contraction So Frightening?

Currency contraction signals economic weakness and lack of confidence, usually caused by a downturn in demand for goods and services. People hesitate to spend money, leading to a decrease in consumer willingness to spend. As demand drops, businesses reduce production, resulting in fewer employees needed on the production line, worsening employment conditions, higher unemployment rates, and difficulties in finding jobs. People become more cautious with their spending, further reducing demand, creating a vicious cycle known as the deflationary vortex as described by Cathie Wood.

In recent months, major media outlets have extensively reported on China's unemployment issues, especially the unemployment rate among young people aged 16 to 24. According to data released by the Chinese National Bureau of Statistics in June, the youth unemployment rate in China had already reached 21.3% at that time. Recently, China even announced a suspension of publishing youth unemployment figures, raising suspicions about the accuracy of the data.

A trend circulating on the Chinese internet recently states that "between working hard and advancing, young people choose to burn incense; between seeking help and self-improvement, young people choose to seek solace in Buddhism," indicating the resigned and helpless attitude of Chinese youth.

Cathie Wood Blames Violent Rate Hikes in the US

Cathie Wood believes that the Federal Reserve has heightened the risk of global currency contraction. The Federal Funds Rate has increased a record 22 times, with its impact likely to first affect China and then spread to other regions worldwide.

Since the beginning of last year, the Federal Reserve in the US has initiated a series of violent rate hikes, with the benchmark interest rate now standing at 5.25-5.5%. Major central banks around the world, such as the European Central Bank, the Reserve Bank of Australia, and the Bank of England, have all followed suit. However, this series of rapid rate hikes has caused harm to the market. The US experienced a banking crisis in March of this year, with Switzerland's second-largest bank, Credit Suisse, being taken over by a Swiss bank. At the time, Ray Dalio, the founder of Bridgewater, referred to the Silicon Valley Bank incident as a "canary in the coal mine," suggesting that we are in a classic bubble burst period. He predicted that the financial and economic situation in the next one or two years could be very difficult, with rate cuts or other measures likely to occur within a year. He recommended that investors maintain diversified investment portfolios to avoid risks.

Currently, despite China ending its zero-COVID policy, the economy has not shown signs of improvement, forcing the People's Bank of China to lower interest rates to rescue the economy. Will this risk, as predicted by Wood, slowly spread to other regions in the world?