As noted earlier, overnight in Asia the main news was the release of Chinese economic data for July, which came in well below expectations across the board and also posted a sharp decline sequentially, printing at the worst levels since the covid lockdown in February 2020. The numbers summarized:
Retail sales grew by just +8.5% yoy (vs. +10.9% expected), down from 12.1% in June
Industrial production growth similarly underwhelmed at +6.4% yoy (vs. +7.9% yoy expected), down from 8.3% in June
Fixed asset investment was up +10.3% yoy in the first seven months of the year (vs. 11.3% yoy expected), down from 12.6% in June
The unemployment rate ticked up to +5.1% (vs. +5.0% expected).
Property investment, a crucial growth driver of China’s recovery from COVID-19 disruptions, grew 12.7% in January-July, versus a 15% rise in the first half of this year.
China’s new home prices rose at the slowest clip in six months in July, as authorities further tightened rules in the red-hot property sector. Some more property-related data:
Floor space sold: -8.5% yoy in July, vs. +7.5% yoy in June (value of sales: -7.1% yoy, vs. +8.6% yoy in June).
Floor area under construction: +9.0% yoy in July, vs. +10.2% yoy in June.
New starts: -21.5% yoy in July, vs. -3.8% yoy in June.
Completions: +25.7% yoy in July, vs. +66.6% yoy in June.
Real estate investment: +1.2% yoy in July, vs. +6.0% yoy in June.
Some more details on each of these adverse developments from Goldman:
1. Industrial production increased by 6.4% yoy in July, significantly less than expected. The weakness appears relatively broad-based. Activity growth in machinery manufacturing sector slowed on the back of export growth deceleration, and production in upstream industries such as metals smelting and pressing also continued to weaken amid tightened environmental regulations and policy controls. High tech manufacturing (such as industrial robot production which supported overall IP growth in June) was probably affected by the outbreak of the virus and related control measures around Nanjing towards the end of July.
2. Fixed asset investment (FAI) fell 0.5% yoy in July (on a single-month basis based on our estimates), well below expectations. Manufacturing investment growth decelerated sharply to 9.2% yoy in July (vs. 17.0% yoy in June). Property investment growth moderated further to 1.2% yoy in July (vs. 6.0% in June). Infrastructure investment declined by 9% yoy in July, reversing from +1.9% yoy in June. On a two-year average basis, FAI increased 2.8% per year from July 2019 to July 2021, well below the +5.4% pace for 2019 as a whole.
3. Retail sales growth was also below expectations. Sales contracted by 3.7% mom in July after seasonal adjustment, vs. an increase of 2.9% mom in June. On a real basis, retail sales growth in July moderated to 6.5% yoy from 9.8% yoy in June. Automobile sales among enterprises of a minimum size fell 1.8% yoy (vs. +4.5% yoy in June). Catering sales rose 14.3% yoy in July (vs. +20.2% yoy in June). On a sequential basis, catering sales declined by 0.5% non-annualized sa in July (vs. +1.3% in June). Online goods sales growth moderated to +11.0% yoy in July (vs. +14.6% yoy in June).
4. Property sales volume contracted 8.5% yoy, reversing from +7.5% in June, while housing completions remained solid and rose 25.7% yoy in July (vs. +66.6% in June). The decline in housing starts widened to -21.5% yoy in July from -3.8% yoy in June. Building material sales slowed meaningfully to +11.6% yoy (vs. +19.1% in June). In contrast, furniture sales and home appliance sales slowed slightly to 11.0% and 8.2% yoy in July, respectively (vs. 13.4% and 8.9% in June).
5. The nationwide survey-based unemployment rate edged up to 5.1% while the 31-city surveyed unemployment rate remained unchanged at 5.2% in July. The unemployment rate for labor without local hukou edged down to 5.0% in July from 5.1% in June while the unemployment rate for the 16-24 age group rose from 15.4% to 16.2% in July. The increases in surveyed unemployment rate appears to be seasonal – the 16-24 age group unemployment rate tends to increase in summer in recent years.
After the strong June data prints, July activity growth surprised to the downside and the weakness appears broad-based. Activity growth slowed in sectors such as property and infrastructure-related industries, amid policy tightening; and slower export momentum also dragged down activities in more export-oriented sectors such as machinery/equipment manufacturing. Idiosyncratic headwinds such as the flood, typhoon and virus control measures towards the very end of the month added to the growth downside, in particular for service industry activities.
This downturn also comes on the back of recent Covid outbreaks that have led to further lockdowns and restrictions…
…and came just after Deutsche Bank became the latest bank to join Goldman and Morgan Stanley in downgrading its GDP forecast for China on Friday with the latest projections now seeing year-on-year growth of +5.5% in Q3 and +4.5% in Q4.
China tightened social restrictions to fight its latest COVID-19 outbreak in several cities have hit the services sector, especially travel and hospitality in the country. “Given China’s ‘zero tolerance’ approach to Covid, future outbreaks will continue to pose significant risk to the outlook, even though around 60% of the population is now vaccinated,” said Louis Kuijs, head of Asia economics at Oxford Economics, in a note.
The slowdown in the economy comes at a time when China’s PPI continues to rise, hitting the highest level since 2008, with higher commodity prices pressuring small and medium-sized firms in particular, in what appears to be a classic case of stagflation.
Confirming the dire state of China’s economy, a sales manager at a medical equipment factory in the eastern province of Jiangsu told Reuters that smaller companies are unable to pass on recent rises in raw material costs to buyers.
“We don’t dare to increase our prices…but our prices cannot fall, otherwise there will be no profit at all,” he said.
Worse, there is no hope for lower commodity prices in the immediate future, meaning that China’s producer price inflation, which grew 9.0% from a year earlier in July, will likely remain high for some time, the NBS said on Monday.
Amid this stagflationary mess, a growing number of analysts have been cutting their third quarter growth estimates for China. The country’s gross domestic product (GDP) expanded 7.9% in the April-June quarter from a year earlier, but is expected to slow considerably in coming quarters. Last week we reported that Goldman now expects Q3 real GDP to rise just 3.5% to 2.3% Q/Q (vs. 5.8% previously), while on ANZ also downgraded its gull year 2021 GDP forecast to 8.3% from 8.8% after the disappointing July data.
“Although they are unlikely to inject massive stimulus to boost headline growth, the central bank will maintain an easing bias,” said ANZ analysts in a note.
As a result virtually everyone is now expecting aggressive easing out the PBOC: after the central bank reduced the amount of cash banks must hold as reserves in July, many analysts expect another cut later this year to support growth.
Indeed, China’s central bank injected billions of yuan through medium-term loans into the financial system on Monday, which many market participants interpreted as an effort to prop up the economy, although the cost of such borrowing was left unchanged. Specifically, the PBOC rolled over RMB600bn MLF (RMB700bn maturing) with rates unchanged at 2.95%. Taking into account the 50bps broad RRR cut in mid-July, net of maturing MLF in July and August, the PBOC has injected RMB600bn of liquidity, however much more will be needed and will come in the coming months unless China is willing to risk a hard landing.
To wit, Goldman wrote this morning that “we expect more supportive policy measures, including larger amounts of government bond issuance, a more supportive monetary policy stance mainly through keeping liquidity conditions ample with another RRR cut, and potentially also some marginal easing in regulation policies (on LGFV financing for example) mainly in terms of looser policy implementation.”
Confirming this dovish view, policy insiders told Reuters earlier in August that China is poised to quicken spending on infrastructure projects while the central bank supports the economy with modest easing steps.
The question, however, is whether China can afford the kinds of massive stimuli that helped push the world out of its deflationary depression in the aftermath of the Lehman failure. Alas, with over 300% debt/GDP, a number which has more than double since the financial crisis, the answer will most likely be no, as Beijing comes perilously close to the moment it can no longer kick the can and pretend its economy can continue growing at 6% or more for the foreseeable future.