Growth is Under Pressure

CHINA - Report 26 Jun 2017 by FAN Gang and Chunyang Wang

Growth, though stable, is facing downward pressure. Value added for major industrial firms was up 6.5% y/y in May – flat on April, and slightly below that of Q1, but still higher than all quarters of 2016. But a key driver for growth in China, fixed asset investment, was up 7.9% y/y, down 1.3 pps from Q1, after falling for two consecutive months. Although current investment growth is not at its lowest rate, the adjusted rate, after factoring in last year’s low base number, is below all quarters of last year. We therefore expect some pressure on future aggregate growth.

M2 reached a record low in May. It was up 9.6% y/y, down 0.9 pps from April, and down 2.2 pps from last May. This is partially due to the deleveraging efforts by monetary policy makers, but it certainly will put pressure on growth as well. Retail sales of consumption goods were up 10.7% y/y in nominal terms, flat on April. In May, exports grew 8.7% y/y, up 0.7 pps from Q1. Imports rose 14.8% y/y, down 9.8 pps from Q1. Over the medium term, as growth rates for producer prices turn downward, imports will continue to weaken, and might even consequently drive an export slowdown.

CPI was up 1.5% y/y in May, appreciating for three consecutive months, and up 0.3 pps from April. The ex-factory price index rose 5.5% y/y, down 0.9 pps from April. PPI rose 8% y/y, down 1 pps from April. The downward trends for producer prices confirm our previous forecast, and we expect this trend to persist.

The China Foreign Exchange Trade System trading platform, overseen by the Central Bank, on May 26th announced it was introducing a "counter-cyclical factor” into the way it calculates the yuan's daily reference rate. This will allow it to better reflect supply and demand over the long term, and to partially counter the short-term exchange rate fluctuations. We believe this change will avoid currency herding, leading to a more fundamentals-based exchange rate. The change will add stability to the yuan, reducing uncertainties for investors and trading partners. Meanwhile, the size of the FX reserve seems to be stabilizing in recent months, even in the environment, with the new round of Fed interest rate hikes. It may be safe now to expect much less volatility in the RMB exchange rate, at least for the rest of this year.

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