China’s authorities signaled they may soon unleash more support for the economy, an unexpected shift in tone that suggests the world’s fastest pandemic recovery may be weaker than it appears.
Investor reaction in China provided a clue for markets elsewhere counting on accelerating global growth: the CSI 300 Index of stocks slid as much as 1.2% Thursday after Beijing hinted companies may need fresh funding, while the yuan dropped and bond futures rose the most in a year. A gauge of China shares in Hong Kong, already hit by a tech crackdown, fell to the cusp of a bear market.
The State Council’s comments were an abrupt change in rhetoric. Officials have for months stressed how excessive global liquidity risked fueling asset bubbles, while some analysts were predicting tighter policy as recently as June. The concern now is that key economic numbers due next week -- including quarterly growth data -- may significantly undershoot expectations, a cautionary tale for most economies that reopened later than China.
“What China is dealing with now is a good example of all the uncertainties other countries may face as they recover from the pandemic,” said Nathan Chow, a senior economist at DBS Bank Ltd. in Hong Kong. “The back and forth and constant recalibration of global central banks’ monetary policies will be a major theme, as the world copes with surprises like Covid-resurgence or spikes in inflation.”
Traders have two takeaways from the State Council’s statement late Wednesday: China’s economy will slow, and the central bank will loosen policy in the second half. Weaker growth is bad news for stocks and good news for bond investors, who pushed benchmark 10-year yields below 3% on Thursday for the first time since August. An indicator of expectations for future borrowing costs slid to the lowest level since January.
Second Thoughts
Caution about the strength of the global recovery has been increasing in financial markets, sending the so-called reflation trade that hammered bonds and re-energized value shares into a rapid retreat. U.S. 10-year Treasury yields have tumbled about 25 basis points in the past two weeks -- a sign traders may be souring on the growth outlook.
China’s economy was first-in, first-out of the Covid-19 shock, and its lopsided, export-reliant recovery shows the difficulty governments face in reviving consumer demand. A Citigroup Inc. index tracking economic surprises shows recent data in China are falling well below expectations.
China’s economy probably expanded 8% in the second quarter from a year earlier, according to estimates compiled by Bloomberg before the data is published July 15. That compares with a record 18.3% growth in the previous three months, which was skewed by last year’s low base. Retail sales and industrial production figures also due next week are likely to show a slower pace of expansion in June.
Central banks around the world are seeking to navigate a way forward after a slew of interest-rate cuts and trillions of dollars in stimulus were deployed to protect economies from the impact of the coronavirus. Some have starting to wind back the emergency measures, with five monetary authorities already raising rates this year. Others, such as the Federal Reserve, are starting to discuss plans to roll back some of their accommodation.
In a largely upbeat policy meeting last week, the People’s Bank of China reiterated its stance to keep policy, liquidity and the exchange rate steady. After Wednesday’s cabinet statement, analysts expect China will make more liquidity available to banks so they can lend more to businesses.
The most likely option would be a cut to the reserve requirement ratio in coming weeks, according to Wang Tao, chief China economist at UBS Group AG in Hong Kong. That would also lower funding costs for lenders and help them repay policy loans due by year-end. More than 4 trillion yuan ($617 billion) of medium-term loans will mature by year-end as pandemic-era funding comes due.
China’s central bank is unlikely to go as far as cutting key policy rates, according to economists at Nomura Holdings Inc. led by Lu Ting in Hong Kong. Such a move “would send conflicting messages on Beijing’s policy stance and would likely trigger bubbles in the property and stock markets,” they wrote in a note.
China was relatively cautious with its program of easing due to the government’s focus on price stability and limiting the growth of its debt pile. The central bank, which said last year it “doesn’t use its bullets all at once,” hasn’t adjusted any of its policy rates in more than a year. China was also one of the first major economies to start normalizing policy, with signs of a shift emerging as early as December.
Still, Beijing has recalibrated policy more frequently than most other major economies. Reasons for this include a fixation with deleveraging and asset bubbles, an uneven capital account that attracts inflows but limits outflows, and weak domestic demand. The changes have added volatility to the nation’s stocks, with the CSI 300 surging to a 13-year high in February before tumbling 12%. The Hang Seng China Enterprises Index has dropped almost 20% from this year’s peak.
The central bank may need to shift gears yet again -- and the world is watching.
“The big surprise of late spring and early summer is that the Chinese economy appears to be slowing,” Jim O’Neill, chairman of Chatham House in London, told Bloomberg TV’s Francine Lacqua on Thursday. “It’s a particularly complicated twist for Chinese policy makers. This is going to be a trickier moment for the Chinese economy and its interplay with the rest of the world.”