4 June 2018
- Chinese economic growth has been stable since 2016 at around 6.8%. Expect Chinese growth this year of around 6.5% and inflation of 2.5-3%.
- Key risks regarding China relate to the policy focus shifting to reducing leverage and reform, rapid debt growth, a trade war with the US and the property cycle.
- Chinese shares remain reasonably valued from a long- term perspective.
- Stable and solid Chinese growth is supportive of commodity prices and is a positive for the Australian economy and resource shares.
It seems there is constant hand wringing about the risks around the Chinese economy with the common concerns being around unbalanced growth, debt, the property market, the exchange rate and capital flows and a “hard landing”. This angst is understandable to some degree. Rapid growth as China has seen brings questions about its sustainability. And China is now the world’s second largest economy, its biggest contributor to growth and Australia’s biggest export market so what happens in China has big ramifications globally. But despite all the worries it keeps on keeping on and recently growth has been relatively stable. This note looks at China’s growth outlook, the main risks and what it means for investors and Australia.
Stable growth, benign inflation
Chinese growth slowed through the first half of this decade culminating in a growth and currency scare in 2015 which saw Chinese policy swing from mild tightening towards stimulus. This has seen pretty stable growth since 2016 of around 6.8% year on year. Consistent with this, business conditions PMIs have also been stable (see the next chart) and uncertainty around the Renminbi has fallen & capital outflows have slowed.
Chinese economic policy has been relatively stable recently. There has been some talk of boosting domestic demand and bank required reserve ratios have been cut. But the latter appears to have been to allow banks to repay medium term loan facilities, interest rates have been stable and growth in public spending has been steady at 7-8% year on year.
Growth and inflation outlook
We expect Chinese growth this year to slow a bit as investment slows further to around 6.5% and consumer inflation of 2-3%.
Key risks facing China
There are four key risks facing China. First, the policy focus could shift from maintaining solid growth to speeding up medium-term economic reforms and deleveraging (or cutting debt ratios) that could threaten short-term economic growth. Some expected this to occur after the 19th National Congress of the Communist Party was out of the way late last year. And the removal of term limits on President Xi Jinping could arguably make him less sensitive to a short-term economic downturn. However, so far there is no sign of this and the authorities seem focused on maintaining solid growth.
Second, China’s rapid debt growth could turn sour. Since the Global Financial Crisis, China’s ratio of non-financial debt to GDP has increased from around 150% to around 260%, which is a faster rise than has occurred in all other major countries.
Since its low in January 2016 the Chinese share market has had a good recovery. But Chinese shares are trading on a price to earnings ratio of 12.8 times which is far from excessive.
Solid growth in China should help keep commodity prices, Australia’s terms of trade and export volume growth reasonably solid. This, along with rising non-mining investment and strong public investment in infrastructure, will offset slowing housing investment and uncertainty over the outlook for consumer spending and will keep Australian economic growth going. However, with strong resources supply (and still falling mining investment) we are a long way from the boom time conditions of last decade and growth is likely to average around 2.5-3%. Rising US interest rates against flat Australian rates suggests more downside for the $A, but solid commodity prices should provide a floor for the $A in the high $US0.60s.
Key implications for investors
- Chinese shares remain reasonably good value from a long- term perspective, but beware their short-term volatility.
- Solid Chinese growth should support commodity prices and resources shares
Important note: While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided.