China economy stalls as myriad problems hit

Weak economic growth in the third quarter and a crisis of confidence in the real estate sector has forced policymakers into action in recent weeks. Time will tell if the piecemeal measures that have so far been announced will put a floor under the slump in activity. More policy easing now seems likely if high frequency activity indicators continue to deteriorate, particularly in the real estate sector.

Why China’s economy slowed by more than expected in Q3

Data published by the National Bureau of Statistics (NBS) show that China’s economy barely grew in the third quarter. Output expanded by just 0.2% in seasonally-adjusted, quarter-on-quarter terms, meaning that the annual rate of GDP growth slowed to 4.9% from 7.9% in the second quarter.

Growth slowed by more than expected as various problems hampered activity during the quarter. Zero-tolerance  of an outbreak of the Delta variant saw the government reimpose activity restrictions early in the quarter, which was compounded by bottlenecks in manufacturing supply chains and regional flooding. More recently, power shortages and real estate sector stress have also weighed on growth. That led to a broad slowdown, as growth in fixed asset investment, industrial production and retail sales eased.

Are these pressures easing?

It appears that the impact of the Delta variant outbreak on activity began to ease towards the end of the third quarter. Monthly activity data for September, published alongside the full national accounts, shows that growth in retail sales rebounded to 4.4% year-on-year (y/y) in September, from just 2.5% y/y in August. The services sector will remain vulnerable to periodic shocks so long as the government’s zero-tolerance policy remains in place.

The government has moved to ease the power crunch by liberalising the sector and ordering miners to ramp-up coal production, but domestic coal prices have continued to climb. As such, even if total blackouts are now avoided in the future, at the very least manufacturers face the prospect of much higher power prices at a time when demand conditions appear soft.

Meanwhile, the authorities have also begun to take steps to ease strains in the real estate sector. Last week, policymakers at the People’s Bank of China announced that problems at Evergrande were manageable and appeared to suggest that banks had been over-zealous in imposing tighter financial conditions.

Could more stimulus follow?

It remains to be seen if these measures will be enough to drive some rebound in activity in the fourth quarter. But, as we have been arguing for some time, the bigger picture is that China’s economy is now undergoing a cyclical slowdown.

Leading indicators begain to decline towards the end of last year. Namely, the credit impulse - which measures lending growth as a share of GDP - and real M1 (which depicts the value of the most liquid components of the money supply, such as currency in circulation and overnight deposits). These signalled a slowdown in growth in the second half of this year.

Data published last week showed that credit growth was still weak in September, indicating that underlying economic conditions are set to remain soft at least until mid-2022.

The upshot is that there are likely to be more downside surprises in future activity data. With the government starting to show concern about the slump in economic activity, this raises the chances of more meaningful policy support in the months ahead.

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