Analysts at economic think-tank RGE Monitor have released a preview of their economic outlook for China. While the country’s GDP is expected to grow at a 7-8 percent clip the next couple of years, such a growth rate would be well below the trend set before the economic crisis. The slower growth rate and other factors will also mute China’s ability to lift the economic fortunes of the rest of the world.
Chinese growth accelerated to 7.9% year-over-year in the second quarter of 2009, from 6.1% in the first quarter (the slowest in more than a decade) as Chinese investment and bank lending continued to accelerate. The second quarter growth was the first acceleration after seven quarters of deceleration. Investment (35.3%) and industrial production (10.7%) saw further increases on a year-over-year basis in June 2009, while construction rose for the first time in a year. While exports continue to deteriorate, reducing the trade surplus, government investment has surged and the consumption it spurred is holding up. But credit extension and increasing production could pose risks of excess liquidity and capacity, respectively.
Below is the full text of RGE Monitor’s release:
Prompted by aggressive government investment, Chinese growth has been improving from the near stall experienced at the end of 2008. When GDP statistics are released this week, Chinese growth is expected to have accelerated from the 6.1% y/y reported in Q1 2009. Manufacturing surveys indicate expansion, residential property shows signs of stabilization, fixed investment is surging and, prompted by incentives, consumption has held up. Despite this acceleration, which stems from Beijing’s aggressive policy response to the economic crisis, RGE still believes that China will grow well below trend in both 2009 and 2010, given the sluggishness of the global economy and the risks posed by China’s fiscal and monetary stimulus itself. RGE expects growth of only about 7.0% in 2009 and 7.7-8.0% in 2010. Moreover, China may have only limited ability to boost other countries’ economies.
Exports, which may have stabilized at a low level, will continue to be a drag on growth well into 2010. Imports also continue to be weak, suggesting that domestic demand has yet to pick up significantly. The reduced trade surplus will contribute to a smaller current account surplus than in 2008. Commodities have dominated Chinese imports in H1 2009, as China took advantage of cheaper prices. With commodity prices now climbing and stockpiles filled, China may slow its purchases in H2 2009, a time when purchases tend to be lower in any case. Chinese support of exports, through increased export rebates and limitations on imports, will likely have limited effect given weak G3 demand and could also contribute to trade protectionism globally.
Government investment has driven China’s growth acceleration while domestic private demand has weakened. With most private capital expenditure financed by retained earnings, weaker corporate profits may restrain private capital expenditure into 2010. So far Chinese electrical demand has yet to match the surge in investment and industrial production. Yet industrial production will likely see further improvement from current levels (8% in May 2009), despite remaining lower than the 2008 pace.
In an effort to limit unemployment, the government has purchased excess output including metals and grain and goods to refined fuels to processed metals. Should China be unable to absorb this new capacity domestically, it might seek to increase exports, increasing a global supply glut.
Chinese consumption has held up, but from a low base (only 36% of GDP), and China is not able to take up the global slack stemming from increased savings by the U.S. consumer. The strong performance of retail and auto sales, prompted in part by incentives does illustrate the ability of the government to influence public and private consumption, however, and raises the possibility that China may have had a stronger underlying domestic demand dynamic than many credited. Yet in 2009, the Chinese consumption basket still faces disinflationary pressure and may face several more months of negative growth. In the longer term, today’s policies will pose inflationary pressures.
With its domestic savings, deeper domestic supply chain and low (domestic) debt burden, China may be better placed than many countries to stimulate demand. Yet the weakness of imports, despite price-induced commodity demand, suggests that so far this year domestic demand remains weak. A reallocation of capital domestically to extend China’s fragmented social safety net, possible only in the longer term, might be required for sustainable consumption driven growth. Greater spending on health, education and retirement, as well as an effort to boost purchasing power through exchange rate appreciation, could reduce Chinese structural incentives to save and stimulate sustainable domestic and global growth.
Chinese bank lending, for the first half of 2009, has been particularly aggressive, reaching a value equivalent to 25% of China’s 2008 GDP. But this lending, whose pace reaccelerated in June 2009, might contribute to asset bubbles–especially in property–and could increase non-performing loans in the future. Small and medium sized enterprises, however, still have challenges finding funds, exacerbating a longer-term corporate finance challenge. Meanwhile, Chinese officials have begun mopping up some of the liquidity through the issuance of bills.
In the near term, risks to the growth outlook may be tilted to the upside, but in the longer term, vulnerabilities could lead to weaker growth. These risks include an even weaker global growth recovery; deterioration of China’s fiscal position, delays of more consumption-oriented policies; and the costs of monetary and credit easing. China has been relatively effective, now and in the past, at ramping up government investment and encouraging state-owned enterprises to spend and banks to lend, but if the rebound in domestic or external growth is weaker, this new production could exacerbate overcapacities and increase the government’s contingent liabilities.
As such, the revival in Chinese asset markets, especially the equity markets, may be somewhat premature. Given the still speculative nature of the Chinese markets and the influence of government policies, the equity market could be vulnerable for a correction. It is worth remembering, however, that Chinese markets are somewhat buffered from foreign portfolio flows, given investment restrictions, and that the Chinese government is carefully restarting the IPO pipeline.
Given Beijing’s determination to ensure currency stability, the renminbi is likely to retain its quasi peg to the U.S. dollar. Given China’s reluctance to allow currency appreciation when external demand remains weak, RGE expects China to continue accumulating reserves, including U.S. debt–albeit at a much slower pace than in H1 2008. In the longer term, the renminbi is likely to appreciate, given Chinese growth and productivity dynamics and the slow but steady steps Beijing is taking to allow the currency to be used beyond Chinese borders.
Despite China’s concerns about the value of its large stock of U.S. assets, reserve diversification will continue to be difficult, though the purchase of $50 billion in SDR-denominated bonds from the IMF will be only a small share of its $2 trillion in reserves. As a group, Chinese investors such as the Chinese Investment Corporation (CIC) will cautiously become more active investors, resuming their equity purchases. Investment in resources and loans to resource rich countries should continue to be a major part of China’s asset allocation, and should boost production of the Chinese national oil companies by clustering operations in countries like Iraq.
Slower than trend growth in China could negatively affect emerging market economies in Asia, Africa and Latin America. So far commodity exporters have benefited most from the surge in Chinese commodity demand. This demand may slow as prices climb and stockpiles overfill. Even if demand slips in Q3 2009, as seasonal trends would dictate, commodity exporters may benefit more from Chinese consumption than suppliers of capital goods and export inputs such as the Asian Tigers and Japan. Despite the demands from Chinese infrastructure heavy stimulus, a sluggish economic recovery suggests energy and metal demand growth might be more subdued in H2 2009 and in 2010 once it has filled stockpiles.
Gregg D. Killoren
victoria1014
Real Earnings Decline in June 2009
The latest reading on earnings released by the Bureau of Labor Statistics (BLS) does not bode well for a strong recovery in the U.S. In addition to the onslaught of job losses, those still working are finding their paychecks lighter. That combined with continued inflation, though tame by most standards, means that the consumer, still struggling with debt, will be in no mood to shop heavily. Investors keen on consumer stocks should generally avoid companies that rely on discretionary income and head toward the “trade down” value stocks like McDonald’s, Walmart, Kroger and Family Dollar (like always though, do the homework before buying).
Here is the press release from the BLS:
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Posted in Economy, Indicators, Investing, Stocks
Tagged Economy, Investing, Market Commentary, Real Earnings