A near doubling in the Chinese economy’s reliance on credit over the past decade will prompt slower growth in coming years, risking diminished returns for investors, according to research by BlackRock Inc.
China’s gross domestic product will rise at a 7 percent to 8 percent pace in the next few years, said analysts at the BlackRock Investment Institute, a London-based unit of the world’s biggest money manager, down from 10.5 percent in the past decade. One yuan of GDP now needs about 0.30 yuan of credit, compared with 0.17 yuan in 2002, a shift BlackRock describes as like a car getting less mileage per gallon of gas.
Premier Wen Jiabao’s decision to loosen some lending curbs this month amid weakening prospects for U.S. and European demand for exports underscores the reliance of the world’s second-largest economy on credit. The country’s banking regulator said yesterday it will allow a higher bad-loan ratio for small companies that have been hardest hit by a slowdown in borrowing engineered to rein in inflation.
“China is becoming a less profitable place to invest,” Neeraj Seth, Singapore-based head of Asian credit for BlackRock, which manages $1.1 trillion of fixed-income assets globally, said in a telephone interview. “Growth requires an ever-increasing quantity of inputs.”
Even as Chinese companies, households and the government need more collective financing to generate output, growth in overall credit itself is set to slow, BlackRock said in a July report. Seth on Oct. 21 confirmed the analysis was still valid. He didn’t comment on BlackRock’s investment strategy or specify what assets might see diminished returns in China.
Aggregate financing, which includes bank lending, off-balance sheet loans and bond and stock sales, dropped 11.4 percent to 9.8 trillion yuan ($1.5 trillion) in the first nine months from a year earlier, a People’s Bank of China report on Oct. 20 showed.
China’s GDP gains are also moderating under the impact of interest-rate increases and curbs on mortgage lending designed to rein in real-estate values. The economy expanded 9.1 percent in the third quarter, the least in two years, an Oct. 18 report showed. At the same time, manufacturing has held up even with strains on the global economy imposed by Europe’s debt crisis and elevated U.S. unemployment.
A preliminary October index of purchasing managers released by HSBC Holdings Plc and Markit Economics yesterday showed the highest reading in five months. The so-called flash PMI increased to 51.1, from a final reading of 49.9 for September and August. A reading above 50 indicates expansion.
A hard landing for China is a “distant scenario,” Liu Li-Gang, head of Greater China economics at Australia & New Zealand Banking Group Ltd. said at the Bloomberg Link China Conference in Hong Kong today. Consumption is “very strong” as wages jump, supporting expansion, John Tang, China strategist at UBS AG, said at the same event.
Some of the most immediate concerns about China’s economy are focused on small companies struggling to repay so-called underground lenders. More than 80 businessmen in the eastern city of Wenzhou have disappeared, committed suicide or declared bankruptcy to avoid repaying debts to informal lenders, the official Xinhua News Agency reported on Oct. 12.
China will allow for a higher bad-loan ratio for small-company loans and provide more support for such enterprises, Zhou Mubing, vice chairman of the China Banking Regulatory Commission, told a Beijing forum, Sina.com reported yesterday. Officials will waive stamp duties on lending contracts between financial institutions and small firms from Nov. 1 to Oct. 31, 2014, the finance ministry said separately yesterday.
Credit will slow as wages eat into corporate savings, households increase the share of income used for spending and as taxes increase, according to the BlackRock institute. Net government savings are set to decline as social welfare programs rise under the 12th five-year plan through 2015, and negative real interest rates may also push households to seek higher-yield alternatives to bank deposits, BlackRock researchers say.
“Rebalancing China’s economy towards a more domestic-led growth pattern and providing an improved social security net will potentially reduce the savings rate,” Seth said. The annual savings rate “must decline” after exceeding 50 percent of GDP during the past decade, he said.
Reliance on credit increased as Wen’s government unleashed a record expansion in lending to combat the 2008-2009 global recession. In 2009, one yuan of GDP required 0.41 yuan of borrowing, according to data compiled by Bloomberg.
Part of the increase in the credit-dependence ratio in recent years is because returns from infrastructure investment sometimes take years to materialize, BlackRock analysts said.
Chinese stocks have underperformed this year in part due to concern that the aftermath of the credit boom will be a surge in non-performing loans that hurts the financial industry. The Shanghai Composite Index has fallen 15 percent in the period, compared with a 5 percent loss in the MSCI World Index.
“It’s not going to be a pretty picture as China cleans up the mess from this credit binge,” said Tim Condon, Singapore-based head of Asia research at ING Groep NV.
Even so, BlackRock analysts see no immediate financial crisis. It’s unlikely that local government debt of 10.7 trillion yuan “will sink the ship,” Seth said, citing strong provisioning and net profits for the top 15 banks. The economy’s sustained expansion also will help “paper over” risks, he said.