Economic Outlook Brightens for China

The government is likely to keep policies stable in the rest of 2012

Chinese economists bet that the central government may slow the pace of releasing new stimulus policies for boosting economic growth in the fourth quarter because recent indicators show the economy is warming up and global demand is expected to rebound moderately.

Top policymakers have shown a cautious stance on taking further steps to ease fiscal and monetary policies, learning lessons from the rushed 4 trillion yuan (US$630 billion) investment package four years ago.

Even though a change in the country's top leadership is going to take place at the 18th National Congress of the Communist Party of China, which is scheduled to open on Nov 8, macroeconomic policies will likely remain stable for the rest of this year, analysts said.

Their comments are based on a recent favorable turn in the economic outlook. After seven sequential quarterly declines, the world's second largest economy started to show positive changes based on the effects of the previous easing measures.

The growth in China's gross domestic product continued to slow in the third quarter to 7.4 percent from a year ago, down from the 7.6 percent year-on-year rate in the second quarter, according to the National Bureau of Statistics data released on Oct 18.

Weakened global demand was the main force in dragging down expansion. In the first three quarters, net export value lowered the whole GDP by 0.4 percentage points, contributing a negative 5.5 percent to growth, according to the data.

"Domestic demand, which consists of consumption and investment, will be the engine to cause the economy to rebound," said Pan Jiancheng, deputy director-general of the bureau's China Economic Monitoring and Analysis Center.

Domestic consumption accounted for 55 percent of GDP, driving growth up by 4.2 percentage points in the first nine months. Investment accounted for 50.5 percent of the increase, or 3.9 percentage points, the bureau said.

Wang Tao, chief economist in China with UBS AG, said the risk of economic slowdown has decreased, supported by the previous fine-tuning, and the global situation may remain stable in the fourth quarter.

"September's economic indicators have suggested a moderate rebound," Wang said.

One of the good signals was the monthly released indicator of the operational activities in the manufacturing sector — the Purchasing Managers' Index. It rose to 49.8 in September from 49.2 in August, which means the manufacturing industry was still contracting but at a slower pace. A reading above 50 means expansion while that below 50 shows contraction.

A sub-index of new orders rose to 49 in September, 1.1 points higher than the August figure, which was the main driver of the PMI, reflecting a moderate rebound in demand, according to the official data.

In terms of industrial production, output rose 9.2 percent in September from a year earlier, compared with 8.9 percent in August. Western China experienced the fastest pace in producing industrial goods with a reading of 12.4 percent. The September year-on-year figures were 9.5 percent in Central China and 8.3 percent in eastern areas, the bureau said.

Amid the shrinking demand, profits for Chinese companies, especially in the manufacturing sectors, dropped fast from the beginning of this year. Total profits fell 3.1 percent in the first eight months compared with a year earlier because of lowered output prices amid gloomy market demand and increased costs.

Companies' profit growth is expected to bottom out in the fourth quarter, lifted by stabilizing overseas demand amid a slow recovery of the US economy and the easing of European debt problems, according to the UBS economist Wang.

"The September macro data set seems to suggest some encouraging improvement in demand conditions, both on the domestic and external fronts, although there was likely some seasonal effect in the form of front-loading of activity ahead of the long holiday in early October," said Zhu Haifeng, the chief Chinese economist with JPMorgan Chase Bank NA in Hong Kong.

Since May, the government accelerated policy easing to support the pickup in public investment in areas such as infrastructure, railway, environment protection and clean energy.

The effects have been seen in September's fixed assets investment data. It increased by 20.5 percent year-on-year in the period from January to September, 0.3 percentage points higher than the figure in the first eight months, the National Bureau of Statistics reported.

"This translated into fixed assets investment growth of 22.2 percent year-on-year in the month of September, the strongest since November 2011," a report from JPMorgan said.

The investment in manufacturing industries increased by 23.5 percent in September since a year earlier, down from 23.9 percent in August. However, the investment growth in railways, highways and roads improved moderately last month, according to the official data.

"Investment, especially in infrastructure construction, is expected to be the main driver to boost growth in the fourth quarter," said Wang of UBS AG.

Consumption, which can be shown from the total retail sales value, increased 14.2 percent year-on-year in September, up from 13.2 percent in August. Sales of furniture rose 31.4 percent and sales of construction materials jumped 26.9 percent, the bureau revealed.

More leading economic indicators support the economists' prediction of a rebound.

For instance, in October, the China Business Sentiment Index, a preliminary indicator released by the Deutsche Borse Group's wholly-owned subsidiary Market News International, slightly rose to 51.52 from 51.35 in September.

It suggested that operating conditions for Chinese companies have changed in a positive way, said Zhang Zhiwei, chief economist in China with Nomura Securities Co.

As the MNI Index is highly correlated with the official PMI index, Zhang predicted the October PMI may rise above the expansion-contraction line of 50. The National Bureau of Statistics plans to release it on Nov 1.

"The Chinese economy is stabilizing and improving moderately as the impact of moderate policy easing begins to show up gradually," he said.

The People's Bank of China, the country's central bank, cut the benchmark interest rate twice this year to lower lending costs to encourage investment since May. It also decreased the reserve requirement ratio twice to inject more liquidity into the market.

Both new loans and monetary supply were boosted in September according to the central bank's records.

"Credit and bond issues have already been relaxed to support economic growth," said a report from Barclays Capital Asia Ltd.

"The broad money supply, or M2 growth, climbed to 14.8 percent, above the central bank's 14 percent full-year target up to September and total social financing is on track to rise to 15 trillion yuan, above the 14 trillion yuan record set in 2010."

A better-than-expected situation is that consumer inflation remained at a relatively lower level amid the easing monetary policy.

The Consumer Price Index, a main gauge of inflation, retreated to 1.9 percent in September from 2 percent in August. It hit a two-year low of 1.8 percent in July, said the statistics bureau.

Economists predicted that inflation may gradually pick up toward the end of the year as food prices may start to rise again, especially the cost of pork. Global commodity prices are likely to rebound as well.

The central bank's deputy governor, Yi Gang, said at the annual meeting of the International Monetary Fund and the World Bank on Oct 13 that "this year's inflation rate is fine". However, medium-term inflation pressure may remain significant.

Zhu from JPMorgan forecast that the CPI is likely to remain below 3 percent by the year's end, while the full-year reading is expected to be 2.7 percent.

"In the near term, with the economy's growth momentum improving gradually and with inflation picking up later this year, the likelihood of further interest rate cuts in the rest of 2012 is diminishing in our view," he said.

In the last quarter, the central bank may cut the reserve requirement ratio again by 50 basis points, Zhu added.

Based on the better outlook of statistics in recent weeks and because the impact of moderate policy easing measures will continue to show up in the real economy, economists are confident about China achieving its whole-year GDP growth target of 7.5 percent.

The growth rate in the fourth quarter may stabilize at 7.4 percent year-on-year, which can support a 7.6 percent expansion pace across the whole year. It is forecast to rise steadily from the first quarter next year and achieve 8 percent growth in 2013, according to the JPMorgan economist.

"It should be noted that China's potential growth has likely come down to lower than 8 percent. This is likely behind the government's higher tolerance for slower growth in 2012 and also its small appetite for over-stimulating the economy above its potential," said Huang Yiping, a Chinese economist with Barclays Capital.