Growth in China slowed to 7.4% y-o-y in 1Q14, with a q-o-q growth rate of just 1.4%, the weakest growth rate since 4Q08. Net trade subtracted 1.4 percentage points (pp) from growth following a poor export performance. The contribution from investment slowed to 3.1 pp from 4.1 pp in 4Q13. Despite a fall in retail sales growth from 18.6% yo- y at the end of December to 13.5% y-o-y in March, the contribution from consumption actually increased sharply, from 3.9 pp to 5.7 pp. This makes the path for consumption this year particularly hard to forecast. A poor trade performance coupled with weak investment is behind the slowdown, while consumption growth was strong despite moderating retail sales. Growth expectations for GDP were left unchanged for this year at 7.5%, with consumption unable to make up for a weaker impetus from the external sector. There are upside risks to this forecast if the authorities lose their nerve and pursue a more traditional credit stimulus towards the end of the year.
According to a State Council meeting related to the ‘mini stimulus’ subject in early April 2014, the package included extensions to existing tax breaks on small businesses, drawing attention to some of the infrastructure spending measures set out in China’s urban development plan (which stretches to 2020), and lowering the reserve requirement ratio for rural financial institutions. The government quickly switched to calling it a ‘new economic package’ to divert accusations of another credit-fuelled stimulus.
The inflation rates of newly-constructed residential and commercial properties have been steadily moderating in most of the major cities. With a bank run at a small cooperative bank in March, the possibility of a slump in property prices leading to a wider banking crisis remains as China negotiates its way to a slower growth path.
Sharp moves in China’s currency over the past few weeks have led to great uncertainty about the near-term prospects for the renminbi and the future of the exchange rate regime. Looking at the recent volatility, the renminbi is seen to now be more or less at its equilibrium value. In mid-March, the People’s Bank of China (PBoC) announced a move to widen the exchange rate band to 2% around its midpoint, from 1%. This followed a surprise depreciation of the renminbi over the previous few weeks. The exchange rate has since fallen further, to 6.25 against the dollar, taking the level back to that of March 2013. Like many things in China, the move has more than one aim. It is to stop the one-way bet on China’s currency through the carry trade. It is also a further step towards the liberalization of China’s capital account after the January 2014 Yuan appreciated to the level of February 2013.
Chinese exporters are seeing stronger demand from developed markets, indicating that expected trade strengthening that failed to materialize in 1Q may help sustain growth this quarter. According to data issued by China’s General Administration for Customs, exports to the EU and US surged, growing by 15.1% y-o-y and 12% y-o-y, respectively; together, the two trade partners account for one-third of Chinese export demand. Export growth rates to Hong Kong, India, Korea and Taiwan also improved relative to a month prior, although trade with Hong Kong still shows negative growth due to false-invoicing issues from last year that authorities curtailed in May. Monthly exports to Australia and ASEAN decelerated, although they still experienced positive growth. In cumulative terms, exports to all partners except Hong Kong (which had data reliability issues through April 2013) grew by 5.4% y-o-y through April 2014.
The final reading of the China Manufacturing PMI stabilised at 48.3 in April, up slightly from 48.1 in March. The latest data implied that domestic demand contracted at a slower pace but remained sluggish. Meanwhile, both new export orders and employment sub-indices contracted and were revised down from the earlier flash readings. These indicate that the manufacturing sector and the broader economy as a whole continue to lose momentum. Over the past few days, Beijing has introduced more reform measures, which could support growth by inducing more private sector investment. Bolder actions will be required to ensure the economy regains its momentum.
The banking crisis could lead to a sharp slowing in GDP growth. The government deficit is expected to remain below 3% of GDP, but the economy will be supported by low-inflationary pressure, a pick-up in export growth and high external debt.