China: the government tries to manage the economy. Source: Google Images
Shallow piece in the NYTimes today on a modest slowdown in economic growth reported in China for the second quarter, prettily written by non-economists. For a better analysis, not so elegantly written, have a look at the CSFB note from today (below) that explains that growth has slowed due to slackening investment (in Chinese terms — down from a strong expansion of 3% per month in April and May to 1.4% month/month in June) and to downturns in the property and stock markets. CSFB sees this modest slowdown as exactly what the Chinese authorities are looking for to keep inflation in check and as giving no indication that monetary policy will be tightened much further from its current setting. CSFB notes that consumer demand and, notably, exports remain quite robust in China.
What should be underscored about China is that the state still calls a lot of the shots in that economy, much more so than in Western economies (well, okay, there is always France). The central government directs banks to lend and regulates credit to local governments, which impacts investment, including real estate and infrastructure. So, in addition to the traditional levers of fiscal and monetary policies which we’re familiar with in the West, the Chinese government has more heavy-handed policy tools (although in the wake of the financial bailouts in the West, we shall see how interventionist the state becomes).
Also worth understanding is that while China now plays a major role in the world economy, it cannot alone drive the world out of its doldrums. Whether or not there is a double-dip recession, and odds are there may well be in some countries, will be determined in the massive economies of the US, Europe and Japan, still reeling from the financial shocks and consequent poor public debt dynamics of the last few years.
From CSFB today:
China
Dong Tao
+852 2101 7469
[email protected]
The economy expanded by 10.3% yoy in Q210, less than the market consensus of 10.5%. While the headline growth figure seems acceptable, we estimate that annualized quarter-on-quarter growth dropped to about 1.9%, from 2.7% in Q110. A large part of the growth deceleration came from inventory corrections and a slowdown in fixed asset investment. Based on our calculations, total fixed investment growth moderated to about 9% qoq (sa) in 2Q from about 13.4% in 1Q. However, the growth momentum was supported by robust consumption and rebounding exports. Meanwhile, inflationary pressure has eased.
Retail sales grew by 18.3% yoy, versus 18.6% yoy in May. Sales have remained very solid despite the anecdotal evidence of slowing auto and home appliance sales. We think it is the consumers from smaller cities and rural areas, who are less exposed to the property and stock market downturns, who have delivered. The resilience in private consumption continues to be the pillar of our argument that economic growth will moderate but not collapse in H210 and that Beijing is in no hurry to ease.
Fixed asset investment grew 24.5% yoy in June, versus 25.6% in May, and, on our calculations, fixed investment growth moderated to 1.4% mom (sa) in June from over 3% in the previous two months. In view of tightened credit conditions faced by local governments, we expected infrastructure investment to decelerate further, although remaining large in absolute terms. Housing construction activities seem to have held up well for now, but we anticipate a sharp slowdown in H210 if transaction volumes do not pick up quickly. The slowdown in fixed asset investment will be the key determinant for growth over the next 12 months, in our view.
Industrial production growth saw a sharp fall to 13.7% yoy in June, from 16.5% in May and 18.6% during the first five months. On a seasonally adjusted month-on-month basis, we estimate that industrial production declined by 0.8%, the first decline since November 2008 (excluding the Chinese new year period). This is consistent with the decline in power consumption growth in June and the suspensions of production in the steel and auto sectors. We believe inventory corrections will continue for at least a few more months, based on our discussions with manufacturers, who are concerned about the property sector and a global “double-dip”. Government policies, such as suspending export tax rebates and promoting energy-saving measures, and its supportive stance towards labour compensation, may also play a role. The floods along the Yangtze River are likely to cause production problems as well.
CPI inflation softened to 2.9% in June from 3.1% in the previous month. Inflation softened by 0.6% on a month-on-month basis. This occurred despite bad weather conditions. In view of the slowdown in economic activity in H210, we expect a further small easing in production costs. However, surging wage rates and rising food prices may prove to be stubborn. Food prices have started to rise again in July, as reduced production of summer crops has been confirmed. More importantly, ‘hot money’ is competing with the state purchasing agent in purchasing grain from farmers. A crucial factor that pulled headline inflation down was falling pork prices. However, that trend has reversed and pork prices have edged up over the past 2-3 weeks. The consequences of “foot and mouth disease” and surging feed costs are starting to become evident, and we expect a significant rise in pork prices in H210. Pork counts about 8% of China’s CPI basket. We are revising down our year-average CPI forecast for 2010 to 3% from 3.7%, based on a weaker outlook for growth and falling production costs. However, we set our year-end inflation target at 3.3% to reflect the inflationary pressure from food and services (through wage hikes). We now expect one 27bps interest rate hike in both the one-year lending and deposit rates by the end of this year, and two more hikes in 2011.
While growth momentum may have fallen ‘one notch’, we believe demand for commodities may have gone down ‘two notches’. However, we still think that economic growth is unlikely to collapse in the way it did in 4Q08, as consumption remains solid and liquidity remains ample. Other than for CPI and the interest rate outlook, we are not changing any of our forecasts.
We believe that this set of data will not result in much in terms of policy changes. The moderation in growth is exactly what Beijing has aimed at, in our view, and the pace of softening seems to be acceptable (the government focuses on the year-on-year growth number). The government has already entered a ‘pause’ phase in its tightening strategy, and we do not expect much in the way of new tightening measures. Neither do we expect the policy gear to be shifted to easing mode, at least in Q310. The central bank has resumed the net draining of liquidity in its open market operations this week after the listing of a major commercial bank, and the authorities have reiterated their determination to squeeze the ‘bubble’ in the property market.
