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    China Growth – Manufacturing Close To Being A Drag

    Natalia Gurushina, Chief Economist, Emerging Markets Fixed Income Strategy
    August 02, 2021

    China’s latest activity gauges were not great, raising concerns about the near-term growth outlook. Some remedial policies are already being implemented, but more support might be needed going forward.

    China’s latest activity gauges were not great. There were further pullbacks in the Purchasing Managers Indices (PMIs),1 especially in manufacturing. The official manufacturing PMI moved closer than expected to the expansion/contraction boarder (50.4), and the Caixin PMI (which has a higher share of private companies) dropped to a 15-month low (see chart below). The official non-manufacturing PMI also eased (to 53.3), but at least this was expected, and the index stayed well within expansion zone. The moderation was in part due to exogenous headwinds - unfavorable weather conditions (floods), and new movement restrictions. A further deterioration in the new export orders - which moved deeper into contraction zone (47.7) – points to stronger global headwinds, as the world is facing the new variants of the virus. However, July’s slowdown also reflected deliberate policies to deflate the real estate bubble. So, the two questions on our mind are: (1) will China’s 8.5% 2021 consensus growth forecast have to be cut? and (2) will authorities need to reassess their targeted policies?

    China’s near-term growth outlook (Q3) definitely looks less rosy now, and the IMF had just lowered its own 2021 GDP forecast for China by 0.3% to 8.1%. Authorities already made some moves to limit the downside – such as a 50bps cut in the reserve requirements for banks and the Politburo’s call for more fiscal support. We suspect that the latter will target, first and foremost, small privately-owned companies, which continue to struggle (not only because of the new movement restrictions, but also due to cost pressures). The small companies PMI weakened further in July (to 47.8), whereas the large companies PMI stayed comfortably above 50.0. However, if manufacturing activity slides further, more “blanket” support remains an option.

    As regards other targeted policies - the anti-bubble push and the tech crackdown - the reasoning (especially in the tech sector) goes beyond purely economic and involves domestic politics. So, what looks “rational” from the market’s perspective, is not always “rational” from China’s vantage point. One area where the interests of both sides overlap is financial stability. If the latter is threatened, authorities should be expected to take a step back, and this will probably include tolerating fewer corporate defaults. 

    Charts at a Glance: China PMIs Showed No Improvement in July


    Source: Bloomberg LP

    1We believe PMIs are a better indicator of the health of the Chinese economy than the gross domestic product (GDP) number, which is politicized and is a composite in any case. The manufacturing and non-manufacturing, or service, PMIs have been separated in order to understand the different sectors of the economy. These days, we believe the manufacturing PMI is the number to watch for cyclicality.

  • PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies. A reading above 50 indicates expansion, and a reading below 50 indicates contraction; ISM – Institute for Supply Management PMI: ISM releases an index based on more than 400 purchasing and supply managers surveys; both in the manufacturing and non-manufacturing industries; CPI – Consumer Price Index: an index of the variation in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal Consumption Expenditures Price Index: one measure of U.S. inflation, tracking the change in prices of goods and services purchased by consumers throughout the economy; MSCI – Morgan Stanley Capital International: an American provider of equity, fixed income, hedge fund stock market indexes, and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows the market's expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options.; GBI-EM – JP Morgan’s Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by Emerging market governments; EMBI – JP Morgan’s Emerging Market Bond Index: JP Morgan's index of dollar-denominated sovereign bonds issued by a selection of emerging market countries; EMBIG - JP Morgan’s Emerging Market Bond Index Global: tracks total returns for traded external debt instruments in emerging markets.

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  • Authored by

    Natalia Gurushina
    Chief Economist, Emerging Markets Fixed Income Strategy

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