Chinese economic recovery may be ‘a false dawn’

In recent months, a slew of economic data from China gave rise to hopes that the world’s third-largest economy may have bottomed out and a recovery may be around the corner.

Indicatively, the Purchasing Managers’ Index (PMI), a measure of the health of the manufacturing economy, rose for five consecutive months and back into expansionary territory; bank loan growth surged in the first quarter of this year; property transactions in Beijing, Shanghai and Shenzhen, which had virtually frozen in late-2008, rebounded sharply in the past three months; and car sales rose 37% in April, propelling China as the world’s biggest auto market, with 2.8 million units sold in the first four months of this year.

But increasingly, economists are coming around to the view that these ‘green shoots of recovery’ may merely be signalling a false dawn in China, and that the rebound may not be as robust as had been believed — and may even be reversed.

“Economic activity has softened since the second half of April, and the trend has become more visible in May,” says Credit Suisse economist Dong Tao. “The economy is still recovering, but the pace has slowed, and even reversed in some sectors.”

In fact, Tao reckons that the PMI runs the risk of slipping back below 50 over the next few months — which would signal a contraction in industrial activity — due to weaker activity and seasonality. “Should the PMI dip below 50, it would be negative for commodities and for the rest of the world,” he adds. “It would also make the recent optimism seen throughout the commodity world and the shipping industry seem out of touch with the reality in China.”

China’s exports situation remains “grim,” points out Moody’s Economy.com associate economist Alaistair Chan. Exports fell 22.6% year-on-year in April, on top of a 17.1% drop in March. Sales to the US and Europe remain soft, and there is no sign of a bottoming in demand from those markets so far.

Indicatively, the Canton Trade Fair in April-May, the largest trade fair in China, reported a 31.4% y-o-y drop in export orders (in US dollar terms), notes Deutsche Bank’s Greater China chief economist Jun Ma, who has long held that China’s recovery path will be W-shaped (with another dip in growth), not V-shaped (with a sharp rebound).

Given that the Canton fair order leads actual export performance by 3-6 months, this bodes ill for exports, on which China still remains excessively dependent.

“Shipping port operators say there are mountains of containers lying idle at the ports,” says JP Morgan chief of China equities Jing Ulrich. In fact, access roads to ports have been sealed off because there is no room for any more containers.

And although China’s inland provinces — like Sichuan, Shaanxi and Inner Mongolia — appear to be decoupling and registering relatively higher GDP growth, the coastal regions are still struggling, adds Ulrich.

Does this mean the Chinese government’s 4 trillion yuan ($585 billion) stimulus package isn’t working well enough?

Much of the government’s stimulus has been monetary in nature, points out Chan. Bank lending has surged, but the monetary stimulus has been uneven. “The vast bulk of the 5.17 trillion yuan ($757 billion) lending during the first four months of the year has been to state-owned enterprises. Meanwhile, struggling smaller businesses have found loan applications repeatedly rejected.”

This may be because lending to state-owned enterprises is relatively safer, as it carries an implicit government backing, “but there are nevertheless growing fears of a vast tranche of non-performing loans in the coming years,” adds Chan. And although the government has the ammunition to deal with banking problems that may crop up, “another series of bank restructuring and recapitalisations will take another hit on the government’s finances and China’s future growth rate.”

In other words, says Chan, China may have achieved “a short-term recovery at the cost of lower long-term growth.”