Recent data has painted a bleak picture of China’s economy. As 2024 unfolds, there are signals that Beijing is finally stepping up to the plate with a solid raft of measures designed to improve consumer and business confidence. For investors trying to gauge whether these moves are effective, here are the indicators to keep an eye on.
Since the New Year, Beijing – having apparently hit the economic ‘pain point’ – appears to have stepped up its stimulus measures (See “Chi Flash: Beijing Mulls Aggressive Easing as ‘Pain Point’ Hits” 15 November 2023). Within a few days after the State Council meeting on 22 January, the authorities announced three major steps to help boost market sentiment:
- RMB 2 trillion of support for the offshore and onshore stock markets
- Cutting banks’ reserve requirement ratio (RRR) by 50bp, effectively releasing RMB 1 trillion (roughly USD 140 billion) into the system, and cutting the re-lending and re-discounting rates applied to loans for rural and small firms by 25bp
- Allowing property developers more leeway to use their property-backed loans to repay other loans or bonds, and not just for property investment.
These latest efforts come on the heels of a batch of measures since the second half of 2023. Even so, it leaves pivotal questions in investors’ minds:
- Is it enough to turn things around?
- Does this (at long last) mark a policy shift to more assertive action?
- What indicators can be used to gauge the effectiveness these measures in terms of boosting China’s economic and market dynamics?
Is Beijing doing enough?
Probably not yet. China has so far alleviated only one of the three confidence dampeners that have been stymieing growth: the zero-Covid policy, which ended in December 2022. The other two blockages – a deeply distressed property market and insufficient policy easing – are still weighing on consumer and business confidence and remain to be addressed more effectively.
The property market has yet to stabilise after two years of ‘incremental easing’, with transaction volumes still contracting, albeit at a slower rate more recently. The ongoing property market woes reflect insufficient support and have raised the risk of deflation, with the GDP deflator contracting since the second quarter of 2023 (see Exhibit 1).
More assertive easing
To counter the deflation risk, Beijing needs to pump-prime the system through aggressive action. This would demonstrate its determination to protect economic growth during a structural transformation. This ‘creative destruction’ process is seeing old industries being put out to grass, while new industries are being created (see ‘Chi on China: China’s Structural Growth (II) – Thinking Outside the Growth Box”, 14 February 2023’).
This process is inherently deflationary as the rate of ‘old economy’ wind-down is faster than the rate of ‘new economy’ creation. In our view, this means monetary and fiscal policies need to expand forcefully to soothe the inevitable economic pains during such a structural transformation.
The People’s Bank of China (PBoC) now appears to have finally started to ease policy more notably with its recent – abrupt – injection of liquidity into the system (see Exhibit 2). However, we see this as a job only half done. China’s economy has the liquidity, but no one is taking it up due to a loss of private sector confidence.
We believe the public sector must pick up the slack and make the most of the unused liquidity. This would mean more government bond issuance, which is what Beijing is now planning to do.
So far, Beijing has announced at least RMB 2 trillion (about USD 280 billion) of special government bonds and local government bonds to be issued in 2024, in addition to the RMB 3.8 trillion (roughly USD 531 billion) planned in its fiscal budget. These figures should be confirmed at the National People’s Congress in March.
Unfortunately, the market has already seen many ‘false’ promises. Public confidence will only improve when these measures are actually delivered. Since monetary transmission in China is impaired (see ‘Chi on China: Implications of China’s Impaired Monetary Transmission Mechanism”, 5 February 2024’), we believe the authorities have to ease policy by more – and for longer – than in previous cycles.
If Beijing can keep up its assertive action in the coming months, we believe there is a reasonable chance of a sustained rebound in economic growth and stock markets this year. If not, we could see growth stuck in low gear, further weakening asset prices.
From a global perspective, a recovery in China would support worldwide growth, commodity demand, and market sentiment, not least when developed market economies are likely to see slower (US) or low (eurozone) growth in 2024.
The indicators that need watching
What would signal a recovery?
Both the Caixin manufacturing purchasing managers’ index – which focuses on small and medium-sized businesses (SMEs) and private sector companies – and the NBS manufacturing PMI (covering large and state manufacturers) will need to move in the same direction and cross the 50 boom-bust line sustainably.
These two PMIs moved in opposite directions in November and December 2023 – the Caixin PMI rose to above 50, but the NBS PMI fell to below 50. In January, they moved in the same direction, but the NBS was still below 50, while the Caixin stayed above 50.
Another leading economic indicator – the credit impulse – needs to see a prolonged recovery. Despite two years of incremental monetary policy easing, the credit impulse did not recover (see Exhibit 3). However, in December 2023, it turned positive. We believe the PBoC needs to continue injecting liquidity into the system (see Exhibit 2) to monetise government borrowing, kickstart spending and turn around public confidence for a lasting bounce.
In the economy, private-sector investment needs to grow again after two years of contraction (see Exhibit 4). Renewed investment would signal a return of ‘animal spirits’.
The property market needs to stabilise, with the number of transactions growing rather than contracting. In our view, this would go a long way towards boosting public confidence and consumer spending (see Exhibit 5).
In short, when the private sector is not spending, it is down to the public sector to pull the economy out of the liquidity trap.
From an investor perspective, minimising regulatory shocks and policy flipflops would help improve confidence to invest in Chinese assets. The most recent example of regulatory risk is the imposition of a law on 22 December 2023 restricting people playing online games and curbing the rewards that encourage video game-playing.
That move sparked panic selling, wiping nearly USD 80 billion in market value off of China’s two biggest gaming companies as investors feared a major hit to these companies’ earnings. The online gaming law was repealed after four weeks due to the damage it had inflicted on the financial markets.