China’s economy: light at the end of a long dark tunnel?
China’s economy: light at the end of a long dark tunnel?
Growth in China’s economy slowed to 4% year on year (y/y) in the fourth quarter of 2021. This is down from 4.9% in the third quarter, and a slowdown in exports, coupled with continued problems in the real estate sector, look set to weigh on activity in the near term.
The good news is that leading economic indicators appear to have troughed, consistent with a cyclical improvement in activity emerging in the summer. Meanwhile, today’s interest rate cut adds to the stimulus being put in place by the authorities. That should ultimately be good for markets.
How China’s economy performed in Q4 2021
According to the official data, GDP growth slowed to 4% y/y in the fourth quarter of last year, from 4.9% in Q3. The print was better than expected: the consensus forecast was for an increase of 3.6%, while we had expected growth to dip below 3%. Monthly activity data indicate that much of the upside surprise in the fourth quarter came from industry, where growth picked up to 4.3% y/y in December buoyed by robust export growth. The outturn meant that China’s economy expanded by 8.1% in 2021 as a whole, after powerful base effects boosted the annual rate of growth in the first half of last year.
Three reasons why activity may remain weak in the near term
1. Manufactured exports, which have been the key driver of growth during the pandemic, look set to slow. Growth in nominal exports remained resilient in December, registering growth of 20.9% y/y, down only slightly from an increase of 22% y/y in November. However, as the chart below shows, the depressed level of new export orders points to a deceleration in the months ahead. We believe that a slowdown in exports will result in a depreciation of the renminbi, which has appreciated sharply in trade-weighted terms during the past year. It is notable in this regard that the possibility of a weaker currency has now begun to be discussed through official government channels.
2. Problems in the real estate sector are likely to drag on for a while. Despite some marginal easing, government policy towards the sector remains tight. And sales of new housing, which typically lead construction activity by six to nine months, are yet to convincingly stabilise. Our assumption is that sales will stabilise at some point soon, and even pick up slightly during the course of the year, but further pain in the sector is a clear downside risk to our expectations.
3. Outbreaks of Covid-19 are likely to cause periodic bouts of disruption to activity. The government’s zero-tolerance policy has recently seen restrictions put in place in Tianjin, and the higher transmissibility of Omicron means that more cities will almost certainly be affected in the near future.
Is there light at the end of the tunnel?
However, it is not all doom and gloom, and the good news is that there is light at the end of tunnel. 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, both rose in December. These indicators have historically led activity by around nine months, suggesting that a cyclical improvement in economic activity will begin to emerge late in the Northern hemisphere summer.
We expect further gradual increases in both leading indicators in the months ahead as fiscal and monetary policy become more supportive. The People’s Bank announced today that it was lowering the interest rate on both its 7-day reverse repo rate and one-year medium-term lending facility by 10bp each to 2.1% and 2.85% respectively. Those cuts followed a 5bp reduction in the one year loan prime rate in December, which is now likely to be followed by another 10bp cut next week. Our baseline forecast assumes a total of 20bp of cuts, which should lend support to activity, along with increased public spending. In line with this, we project a shallow recovery in GDP growth, from around 4.7% this year to 5% in 2023.
What does this mean for financial markets?
Evidence of a turnaround in China’s business cycle should eventually lend support to onshore financial markets and those further afield in the emerging world. However, like with economic activity, movements in leading indicators have historically fed through to financial markets with a lag and so there may yet be more bumps in the road.
- Director Dialogue: how do we tackle climate challenges?
- Economic and Strategy Viewpoint - Q2 2022
- How can investors in resources respond to climate warnings?
- Shell, Chevron, ExxonMobil: how we’re voting at oil and gas AGMs
- How the energy crisis boosts the case for renewables that you may not have heard of
- Can social impact investing actually increase real estate returns?
Important Information: This communication is marketing material. The views and opinions contained herein are those of the author(s) on this page, and may not necessarily represent views expressed or reflected in other Schroders communications, strategies or funds. This material is intended to be for information purposes only and is not intended as promotional material in any respect. The material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. It is not intended to provide and should not be relied on for accounting, legal or tax advice, or investment recommendations. Reliance should not be placed on the views and information in this document when taking individual investment and/or strategic decisions. Past performance is not a reliable indicator of future results. The value of an investment can go down as well as up and is not guaranteed. All investments involve risks including the risk of possible loss of principal. Information herein is believed to be reliable but Schroders does not warrant its completeness or accuracy. Some information quoted was obtained from external sources we consider to be reliable. No responsibility can be accepted for errors of fact obtained from third parties, and this data may change with market conditions. This does not exclude any duty or liability that Schroders has to its customers under any regulatory system. Regions/ sectors shown for illustrative purposes only and should not be viewed as a recommendation to buy/sell. The opinions in this material include some forecasted views. We believe we are basing our expectations and beliefs on reasonable assumptions within the bounds of what we currently know. However, there is no guarantee than any forecasts or opinions will be realised. These views and opinions may change. The content is issued by Schroder Investment Management Limited, 1 London Wall Place, London EC2Y 5AU. Registered No. 1893220 England. Authorised and regulated by the Financial Conduct Authority.