In recent months concerns about China’s stagnant economy have become more pronounced as the much anticipated rebound in growth has failed to materialise. Just last week the price of iron ore on world markets collapsed as demand from China has fallen off. What’s going on – is this the long-feared ‘hard landing’?
Taking a closer look at the data and interpreting government policy action to date we see that lending to local governments has been ramped up and government led infrastructure spending has similarly ramped up since May. However investment in the real estate sector is still falling, even as residential transaction volumes have been increasing since March. Our view is that the central government is trying to limit the amplitude of the stimulus cycle which previously resulted in China’s economy overheating in 2010 after the massive stimulus following the GFC and at the same time trying not to exacerbate the underlying imbalance in the economy.
The key medium term challenge in China’s economy is the imbalance between the Investment portion of the economy and the Consumption portion. The economic stimulus in 2008/09 led to a massive jump in Investment spending and made an already unbalanced economic structure even worse. If growth in real estate investment were to return to 2011 levels – and it would not be difficult to push the market to this level by removing restrictive policies – the economy would be growing 2 percentage points faster than it currently is. And if China were growing at 9 – 9.5% now, I would not be writing a blog about stagnation.
We see two possible ways to view the Central government’s seeming unwillingness to ‘pull the housing lever’ and spur faster growth. One view is that the imminent leadership transition is resulting in an inability for the government to take decisive action and that once the handover is completed we could see a raft of policy moves. However, our take is that this is a sign of the Central government’s willingness to accept slower growth to avoid furthering this economic imbalance. In other words, the government’s reluctance to further moderate housing policy to stimulate growth is a sign of intentional restraint, and one that makes me want to believe they are taking rebalancing as a real priority.
This restraint by the Central government and willingness to accept slower growth puts us in new territory in China. The question now is ‘how long will their restraint last’? Will their resolve hold in the face of an external shock from the Eurozone? With the data indicating the economy is stabilising at these levels, this could well be ‘the new normal’ for China. And in the medium term, that should mean that risks around rebalancing toward consumption led growth are moderating rather than increasing.
