China: Deepening slowdown warrants further easing
- GDP growth weakened to 4.0% YoY in 4Q from 4.9% previous quarter
- COVID clouds Spring Festival spending
- Spotlight is back on infrastructure investment
- Slowing inflation lays the ground for PBOC’s measured easing
- Today’s print will prompt PBOC to cut LPR further, unlocking rally in CGBs
The December data suggest 4Q ended on a slightly stronger note on the supply side. As the power shortage abated, industrial production growth rebounded to 4.3% YoY from 3.8% in November. The 15th straight month of double-digit export growth and a record trade surplus last month point to robust external demand. Yet retail sales weakened further to 1.7%. Fixed asset investment growth continued its downtrend.
The Covid-19 variant is the wild card facing China’s economy. New infections of late have reached a high not seen since March 2020. The broadest lockdowns in two years have already stifled consumption. High-frequency data such as box office revenue and airline seat capacity are drifting down. The Lunar New Year travel rush will begin this week and run until February. A further spread could jeopardize tourism and hospitality sectors during what is traditionally the peak travel season.
Property investment to remain tepid. Leading indicators like growth in new floor space was in the red for the 8th straight month in November. Strain will linger in the face of mounting financial stress and record refinancing costs. Adding to the pressure is the decline in home sales as a continued drop invalues failed to entice prospective buyers. Reports about developers’ heightened liquidity issues and building/delivery delays would sap confidence further. That would worsen the financial position of many debt-saddled real estate companies.
The authorities are increasingly concerned about broader financial contagion and risks to economic stability. The have asked banks to boost real estate lending in 1Q22 and support M&A projects by healthy property developers. Policy fine-tuning should lead to sequential stabilization in housing activities. But a policy U-turn is unlikely under the common prosperity doctrine, in our view.
Spotlight is back on infrastructure investment in 2022, after a lacklustre year amid Beijing’s push to cut wasteful spending. Last week, the State Council urged faster implementation of 102 key projects outlined in the 14th five-year plan. Key areas include infrastructure developments, such as those in support of logistics and telecommunications as well as projects concerning food and energy security.
Provincial governments have announced/kick-started infrastructure projects worth RMB3tn YTD, more than double the amount announced during 1-19 January 2021. In December, the Ministry of Finance has approved as much as RMB1.46tn of advance quota for special local government bonds for 2022. Issuance will likely begin earlier than in previous years.
Monetary easing is needed. Ensuring sufficient liquidity is crucial amid looming municipal bond supply. Austerity steps taken to date provide room for manoeuvre. The country’s overall leverage ratio has fallen for a 4th straight quarter to 263.2% in 3Q21. Inflation is less of a concern at this juncture. Last month’s decline in PPI suggests that factory gate prices may have already peaked in 4Q21, thanks to falling raw material prices. Moderation in emissions reduction push would also alleviate supply shortages. Expect subdued domestic demand to limit the upside in CPI.
PBOC cut the MLF rate by 10bps to 2.85% today, net injecting RMB200bn into the system. The reverse repo rate was also lowered by 10bps to 2.1%. Given the LPR’s 5bp reduction last month, 1Y LPR is expected to be cut by 5bps on 20 January. That will unlock further downside for CGB yields. Over the course of the year, we maintain our call of a 15-bp drop in one-year LPR (to 3.65%) and a 100-bp reduction in required reserve ratio.
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