China Panic Clashes With Outlook for Modest Growth Slowdown

Yuan Sinks to Five-Year Low, Chinese Stocks Halted
  • Markets and the economy `have been distant cousins at best'
  • Wild card may be yuan slide that roils overseas markets

The panic seen in Chinese financial markets this week, with a sliding yuan and stock trading suspensions, is increasingly out of whack with what economists anticipate will be another modest slowdown in the world’s No. 2 economy.

While stock sell-offs in economies like the U.S. can pose major economic challenges because of the impact on household wealth, that’s less been the case in China. Retail sales grew through 2015 despite a market rout that at one stage erased $5 trillion in value, underscoring how a policy-driven shift to a consumption and services-fueled economy, instead of heavy industry, is gaining traction. 

"Sentiment about China is so downbeat right now that there’s a good chance of a positive surprise over coming months," said Mark Williams, chief Asia economist for Capital Economics Ltd. in London, who previously worked on China issues at the U.K. Treasury. "There are signs that policy stimulus is having an effect. Most of the more reliable indicators of activity have stabilized."

Monthly indicators due Jan. 19 are poised to show continued gains in retail sales, and some acceleration in industrial output from November to December, according to Goldman Sachs Group Inc. Meantime, evidence indicates that house prices are steadying, metals prices have picked up from historical lows and demand for credit is reemerging. Surveys of the services sector, while mixed, remain in expansion territory.

"The relationship between what happens in China’s markets and what’s going on in the economy has always been tenuous," Bloomberg Intelligence economists Tom Orlik and Fielding Chen wrote in a note. "At the start of 2016, it’s showing signs of breaking down completely."

Stock investors have been spooked this week by the introduction of circuit-breakers and uncertain prospects for the lifting of a suspension of certain sales; regulators suspended the circuit breakers late Thursday. Another concern has been China’s shift to target the yuan against a basket of currencies; that’s seen the currency tumble versus the dollar this week, though it’s proving more stable when viewed on a trade-weighted basis.

"China is really walking on eggshells," said Qian Wang, Hong Kong-based senior economist for Asia Pacific at Vanguard Group Inc. "People are very easy to panic with some minor news."

Shutting Down

Chinese stocks advanced Friday morning in volatile trade after exchanges closed early on Thursday for the second time this week after the CSI 300 Index plunged more than 7 percent. The central bank moved to stabilize the yuan with its reference rate after it dropped 1.5 percent against the dollar in onshore trading Monday through Thursday.

The downs and ups of China’s stock market are driven by individual equities investors, of which there are 99 million, accounting for around 80 percent of trading. The ratio of Chinese people exposed to the market is small, in a country of 1.4 billion people. In the U.S., a Gallup poll in April 2014 found that 55 percent of those surveyed reported holding stocks, down from 62 percent in early 2008.

China’s gross domestic product growth will slow this year by just 0.4 percentage point, according to the median forecast of Bloomberg economists -- the same as in the past couple years and much less than the roughly 2 percentage point deceleration of 2012, a year when Chinese equities eked out a gain. The GDP advance this year will also be off of a base that’s almost $1 trillion bigger than in 2014.

To be sure, the economy is far from the old trajectory of 10 percent growth that helped stoke exports from Australia to Brazil. A sharp rebound is unlikely -- perhaps ever. A period of "L-shaped growth" is in store, the Communist Party’s official People’s Daily reported on Monday, citing an “authoritative” person who wasn’t identified.

Historic Shift

"Under the current situation, it’s impossible to have a V-shaped recovery via short-term stimulus," the person said, according to the article on the front page, where President Xi Jinping typically features.

The wild card may come from the yuan. While the weakening currency should help exporters, it has also sparked capital to leave China at a record pace as investors and companies rush to squirrel money out of the country and into rival currencies like the dollar. That flow of capital has forced the People’s Bank of China to intervene and support the yuan by buying dollars, in the process running down its foreign-exchange reserves. The hoard fell by $108 billion in December from the previous month, to $3.3 trillion.

Yuan Concern

And if China’s market ructions impair overseas economies, there won’t be much help from exports. Stocks from Europe to the U.S. have dropped this week as the yuan slid.

"The real risk is the policy uncertainty over the currency," said Qian.

Market participants complain that China’s exchange-rate policy lacks transparency. The PBOC has weakened its daily fixing by 2.57 percent since qualifying for entry into the International Monetary Fund’s reserves basket on Nov. 30. At the same time, the central bank has stepped into the currency market to prevent excessive volatility in the exchange rate.

For all the market upheaval, indications are that China’s economy will hold up even if stocks don’t.

"There has always been a disconnect," said Richard Jerram, the chief economist at the Bank of Singapore. "If you look back over the last 10 or 15 years they have been distant cousins at best."

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