Beijing stimulus hopes looking over-optimistic

PUBLISHED : Thursday, 11 December, 2008, 12:00am
UPDATED : Thursday, 11 December, 2008, 12:00am

Yesterday's announcement that China's exports shrank 2.2 per cent last month compared with a year earlier rammed home just how hard the global slump is hurting the mainland's economy. The news will inevitably focus investors' hopes even more tightly on Beijing's planned stimulus measures. Unfortunately, those hopes are looking increasingly unrealistic.

Last month's contraction came as a severe shock to private-sector economists, who had typically been predicting continued export growth of about 15 per cent for the month.

In reality, the news was even more dismal than the headline number implied. China's customs bureau reports its trade data in US dollar terms. As the first of the two charts below shows, if you measure exports in terms of the yuan - which has appreciated against the US currency in the last 12 months - the performance looks far worse, showing a contraction of 10.1 per cent over the year to November.

Stunned, some analysts attempted to explain the figure as an aberration. They suggested that exporters might have held back shipments to take advantage of tax rebates that came into effect this month, or that they had switched from over-invoicing exports to under-invoicing in response to growing expectations of yuan depreciation.

But these explanations don't really stand up. Although anecdotal evidence suggests that the difficulty of obtaining letters of credit may have had some impact on export volumes over recent months, it is unlikely that mainland-specific factors had a significant effect. The sharp fall in Korean and Taiwanese exports last month indicates that the real culprit is declining global demand.

And things are going to get worse. With leading indicators for the world's developed economies showing no signs of bottoming out, demand for the mainland's exports is going to sink further. Qu Hongbin, chief economist for China at HSBC, forecasts a 19 per cent year-on-year decline in the first quarter of next year.

The value added by the export sector made up about 20 per cent of gross domestic product last year. Coming on top of news that property prices across the country dropped 0.5 per cent last month from the previous month, and that foreign direct investment shrank 36.5 per cent from a year before, the export slump spells bad news for the economy's overall growth outlook.

In response, Beijing is doing its utmost to bolster confidence. In addition to the 4 trillion yuan (HK$4.5 trillion) stimulus package, the authorities have sharply cut interest rates and introduced a raft of measures, including easier access to credit for small businesses. More steps are expected soon, including an increase in income tax thresholds, aimed at boosting consumer demand.

Yet with two of the traditional engines of economic growth - exports and property investment - now stalling, doubts persist about the government's ability to support China's growth rate through its proposed stimulus measures. Getting consumers to spend more is a structural change that will take years. It will not be achieved through a few interest rate and tax cuts.

Meanwhile, questions surround the government's proposed programme of infrastructure spending, especially as most of it is supposed to be financed by bank lending. Yesterday, regulators instructed banks to set aside more money as provisions. With bad-asset ratios set to rise as the economy deteriorates, bankers may discover they have limited room to ramp up lending.

As a result, finding a substitute for exports as a growth engine may prove harder than expected.

And export demand is unlikely to return any time soon. With US household debt standing at 97 per cent of GDP, only just down from its all-time high (see the second chart below), American consumers still have a lot more deleveraging to go through before they regain their former enthusiasm for shopping. That implies the slump in China's exports - and in its overall growth rate - could turn out to be a lot deeper and more prolonged than most investors are bargaining for.