For all that cash China is splashing out to rev up its economy, where is the growth?
China has been pumping an astounding amount of liquidity into the economy. Unlike money, however, optimism seems to be in short supply.
“All this money being tossed around like an after-party at a rap concert is not generating any notable uptick in activity,” Christopher Balding, a Beijing-based business professor, wrote last week in a piece distributed by the research site Smartkarma.
Total social financing – a measure that takes in bank loans as well as other forms of credit, such as bonds – rose almost 16 trillion yuan in 2015 compared to additional gross domestic product of just over 4 trillion yuan. “That is a tiny boost to GDP relative to the amount of money that was poured in,” Balding says. “Imagine what GDP would have been if Beijing had not been dropping money from helicopters.”
Meanwhile, financing expanded even further in the first quarter of 2016, to levels similar to the 2009 stimulus package.
This credit has been sloshing back and forth between various asset classes. Housing sales have been active, for example, but new housing starts are lacklustre, and brokers such as Goldman Sachs expect developers will be in “destocking” mode for the next two three years. Producers of manufactured goods, meanwhile, have let inventories fall to low levels, a sign that they are not confident enough in future demand to restock.
This bottom-up caution might turn out to be a good thing, compared to the alternative to adding to overcapacity in the economy.
Last year, for instance, appliance retailers overstocked, which led to price wars in air conditioners as the summer wore on, dragging profit margins in the sector. HSBC recently visited electronic retailers in southern China and noted that, “thanks to wholesale supply discipline, channel inventory has come down 20-30 per cent” from peak supply in 2015. Thus retail prices are holding up and “the sector might be ready for a rebound if sales grow in the peak season.”
A round-up by BOCI shows that the combined net profits of the 2,530 non-financial A-share listed companies rose a weighted average 6.4 per cent year on year in the first quarter of 2016. That compares to a 14.2 per cent decline for full-year 2015 – including a searing 23.7 per cent – plunge in the fourth quarter.
In a note to clients last week, Credit Suisse First Boston economist Dong Tao relayed an anecdote about one of his contacts – described as a “deputy mayor in middle China” – who in the past few years had repeatedly visited his provincial capital and Beijing to get approval for infrastructure projects, to no avail. Then, just after the Lunar New Year, suddenly all of his projects got the go-ahead.
Meanwhile, however, a classmate of the deputy mayor heard about the news (one wonders how?) and, as this classmate is a commodities trader, he immediately bought up steel contracts in the futures market.
Tao worries that speculative demand has pushed up the price of materials, which in turn has boosted the producer price index, leading to false hopes that producer deflation is ending. “A wave of forecast upgrades took place, and the market became excited,” Tao said. “In our observation, one critical piece of this story seems to be missing – the final demand.”
Balding has similar concerns. “The flowing money is merely suppressing the price signal that tells labour and capital where to go for new opportunities,” he writes. “Does anyone seriously think that the recent run-up in steel prices is anything more than a blip on the screen over the next five years? Of course not, but it gives a misleading signal about the health of the industry, long-term prognosis, and labour/capital allocation in a transitioning economy.”
Moreover, if debt continues to build without producing the growth necessary to help companies repay their loans, then the risk is a major banking crisis.
In a short piece asking “Six Hard Question on China”, Goldman Sachs managing director Eliot Camplisson calculated that banks’ non-performing assets could jump to 11.5 per cent of total assets before breaching regulatory capital requirements. In other words, the banks have big capital cushions.
That at least is a good thing. Because most analysts are pretty sure they will be needing them.
Cathy Holcombe is a Hong Kong-based financial writer