29 June 2016

China policymakers unlikely to turn off money tap

The Chinese economy has been slowing for some time now and the resulting gyrations have been felt around the world. But after a rocky start to the year, it seems the barrage of bad news has moderated.

Julia Wang

Greater China Economist, HSBC. First published in The Straits Times, 6 June 2016

How worried should we be about China, and is a turnaround finally in sight? Are Chinese policymakers likely to take their foot off the pedal in trying to lift economic growth?

Signs Of Improvement

The Chinese economy grew 6.9 per cent last year, its slowest rate since 1990, and the weakening has been a factor in slumping commodity prices and the global stock market turmoil this year.

Chinese policymakers are trying to rebalance the economy, making it less reliant on exports and heavy industry and more focused on domestic consumption and innovation in the private sector. But these reforms have not been smooth-sailing. They are being carried out against the need to cushion an economic slowdown, which means policymakers have had to try striking a balance between the two goals.

However, it's been encouraging to see recent economic data from China has been "less bad". The property market has recovered strongly over the past months. Lending to the household sector was driven by mortgage loans amid the rebound in property sales, which jumped to 33 per cent in the first quarter this year from 4.8 per cent in the fourth quarter last year, and was the strongest rate of growth since 2013.

The property uptick has the potential to spread beyond the top-tier cities of Beijing, Shanghai, Shenzhen and Guangzhou, to second-and third-tier cities. The more upbeat property market has helped buoy China's economy in the first quarter. There are also signs that the rebound in commodity prices has helped lift prices in the sectors related to energy and steel, which have been in the doldrums.

Finally, domestic consumption is going strong. E-commerce giant Alibaba recently released earnings results showing retail revenue grew 41 per cent year-on-year, the fastest in six quarters, as the total value of goods transacted on its platforms in China's retail marketplaces surged. It paid about US$1 billion (S$1.38 billion) for a controlling stake in Singapore e-commerce startup Lazada Group in April, in a bid to boost its Southeast Asia presence.

More Spending Still Needed

One side-effect of a stream of better data is that market participants will start asking the inevitable question: Will Beijing now turn off the money tap and ease up on stimulus?

It is an idea that has gained traction in recent weeks. Some are looking to an article in The People's Daily on May 9 as a sign that Beijing is ready to shift policies. The article referred to policy objectives of cutting overcapacity, containing leverage, de-stocking and reducing the corporate sector's tax and fee burden. The reason it caused such a stir was because it claimed to have as its source a person in authority.

While the article caused some excitement, closer inspection is warranted. Cutting overcapacity, containing leverage and de-stocking are policy priorities that have already been publicly announced, most recently during the National People's Congress in March. So while these are important and necessary reforms, they are hardly breaking news. We see the comments as more of a reiteration and confirmation of current policy, rather than a signal of a policy shift.

The article is really then something of a red herring. In the case of China's supposed recovery, the devil is in the details. While there are some encouraging signs, we think the numbers show that the recovery has yet to find a firm footing. This, and the fact that there are risks that things could weaken again, means that more, not less stimulus should be expected.

Recent Data

China's investment, factory output and retail sales all grew more slowly than expected in April. The Caixin China PMI a private survey of manufacturing activity still points to continued contraction in the sector, while processing imports contracted and commodity import volumes decelerated in April, suggesting persistent external and internal demand weakness.

In the property market, there are expectations that the uptick will continue on the back of stronger consumer confidence. But inventory levels remain high outside of major cities.

Against this backdrop, we think policy easing needs to continue if China is to smooth the path of its reform agenda. Reforms, to the extent that these are to do with cutting overcapacity in state-owned sectors, ultimately rely on coordination between local and central government officials. It is not an extreme view to suggest that the two cannot happen at the same time. In fact, a growth slowdown and deflation make arguably the most difficult backdrop for capacity-cutting because there will be fewer alternative and productive areas where labour and resources can be shifted.

Taking these factors into account, we believe a shift to a neutral, let alone tightening, stance would be highly premature and increase the risks of derailing the economic recovery. Continuation of an accommodative monetary policy is vital. Even more important is continued fiscal easing. There is an extensive infrastructure project pipeline in China, and so far implementation has been better than in 2015. In order to ensure stable growth, this must continue.

It is likely the world will have to get used to slower growth in China, and more market volatility is possible. In particular, China is Singapore's largest trading partner and export market, and uncertainties over China's economic prospects have had and may continue to have spillover effects on Singapore.

Fortunately, we believe Chinese policymakers have plenty of ammunition to pursue a growth agenda. A tightening tantrum can be avoided; it's a matter of keeping the money flowing, and putting it to the right uses.

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