China throws off shackles of Covid with growth surprise

China’s economy was far more resilient during the Q4 “exit wave” from Covid than anyone had expected. And with high frequency indicators suggesting that activity has already begun to pick up sharply as the number of Covid infection has subsided, the near term outlook for the economy is good. Growth is likely to be stronger than generally expected and that should support further returns from local assets.

According to the official national accounts, China’s economy stagnated in the fourth quarter of 2022. That was better than the consensus forecast for the economy to shrink by around 1% as first lockdowns and then the total abandonment of the government’s zero-Covid policy disrupted economic activity. As a result, the annual rate of GDP growth slowed to 2.9% in Q4, from 3.9% in Q3, meaning that the economy grew by 3% in 2022 as a whole.

Most of the upside surprise in Q4 came from domestic demand. December activity data, which were published alongside the Q4 GDP figures, showed that fixed asset investment was resilient. But it was the consumer sector that fared much less badly than anticipated. Leading indicators such as the NBS non-manufacturing PMI had pointed to an even deeper decline in retail sales after a 6% decline in November. In the end, though, retail sales contracted by only 1.8% year-on-year in December.

In many respects, Q4 is already old news given that the removal of all Covid restrictions has brightened the outlook. Consumer-facing sectors should see the most benefit from the release of pent-up demand, along with some improvement in the real estate sector. High frequency indicators such as traffic congestion and domestic flight volumes suggest that this is already happening. This pushes us decisively towards our “China rapid re-opening” scenario that envisages GDP growth of 6-7% in 2023.

Better growth this year is unlikely to mark the end of the structural slowdown that began more than a decade ago. And unless there is a large expansion of credit in Q1, growth is likely to slow again as we head into 2024. However, the near term outlook is clearly better than had generally been expected and this ought to support further gains in local assets.