This week’s developments strengthen the case of China Government Bonds (CGBs). Policymakers struck a dovish tone at both the July Politburo meeting and the PBOC’s 2H Work Conference, against a backdrop of weak data prints.
On the data front, July manufacturing PMI unexpectedly fell back into contraction at 49.2, marking its first contraction in five months. The deterioration points to a K-shaped economy. Contracting new orders and weaker production underperformed new export orders, highlighting continued fragility in domestic demand. High-tech manufacturing remained resilient, while consumer goods industries fell from 50.2 to 47.8. Meanwhile, businesses are cautious amid renewed US tariff uncertainty.
Against this backdrop, the July Politburo meeting acknowledged rising downside pressures and pledged stronger counter-cyclical adjustments, continued support for consumption and employment, and stabilization of the property market. However, policymakers refrained from announcing large-scale fiscal expansion or further government bond issuance. Instead, authorities are inclined to accelerate fiscal deployment. In fact, government spending fell 12.3% YoY in 1H, despite the budget deficit target remaining unchanged at 4.0% of GDP this year. Looking ahead, both the state and private sectors are likely to shift gears toward selective investment in the Six Networks. This includes AI-related CAPEX, as well as investment in water conservancy and underground networks.
Policy support is therefore likely to lean more toward monetary easing. The PBOC’s 2H Work Conference reiterated that monetary policy would remain “moderately loose”, with continued emphasis on maintaining ample liquidity, lowering financing costs, and supporting domestic demand. More importantly, the central bank retained flexibility to adjust policy “at an appropriate time”. The odds of RRR cuts and faster bond purchases are rising. However, a benchmark rate cut is unlikely in the near term, as it could further compress commercial banks’ net interest margins.
The absence of concern over rising bond prices or financial leverage implies that the central bank is currently more focused on stabilizing growth than containing the bond rally. This is also consistent with the latest policy direction on technology investment, which relies heavily on bond and equity financing. In particular, tech-related bond issuance has reached CNY2.8trn.
Strategy-wise, the outcome of the two meetings reinforces our call for curve steepening. Faster fiscal deployment and targeted investment imply moderately higher long-end yields, The current the 10Y and 30Y CGB yields appear a tad too low. Monetary easing, meanwhile, points to anchored short-end yields.
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