Growth in activity slowed in early 2013
China’s GDP growth slowed in the first quarter of 2013, to 7.7% year-on-year. This was down slightly on Q4
(7.9%), contrary to expectations that growth would continue picking up from a trough in Q3 2012 (of 7.4%).
Slower activity was broadly reflected across most indicators of activity over the quarter. Year-on-year growth
in industrial production fell to 9.5% in Q1 (from 10.0% in Q4 2012), while retail sales rose at their slowest pace
(12.4% y/y) in nine years. The latter was partly attributed to a crackdown on “conspicuous” consumption, in a bid
to tackle corruption and luxury spending by government officials (for example, by banning advertisements touting
expensive items as “gifts for leaders” and curbing civil servants’ spending on banquets). On-going anti-corruption
measures may continue to weigh on high-end retail activity going forward.
In recent years, Chinese authorities have been vocal about the desirability for slower, more sustainable growth,
brought about by a rebalancing of the economy – away from over-reliance on investment and towards domestic
consumption and services provision. However, signs of such a rebalancing appeared elusive in the latest
data. Indeed, while growth in fixed asset investment over the year to date ticked down in March (to 20.9% on a
year ago, from 21.2% in Jan-Feb), it nonetheless remained close to the highest seen in a year.
Increasing credit growth is a concern
Indeed, investment may pick up a little further in the near-term, driven by a surge in credit issuance in Q1.
Total social financing (a measure of lending to the non-financial sector) rose by 58% on a year ago, building on
the already robust growth seen over the second half of 2012. The last period of consistently strong credit growth
was in 2009, when state-owned banks ramped up lending sharply to combat the effects of the global downturn.
While increased credit can underpin GDP growth, heightened levels of indebtedness threaten the financial
stability of an economy. Indeed, even though the wave of credit in 2009 supported activity, it also led to a house
price bubble and significantly raised local government debt.
Concern over China’s credit growth, and the risks presented to the country’s financial stability, has
intensified of late. It was one of the reasons cited by the ratings agency Fitch in its downgrading of China’s local
currency debt earlier in April (to A+, from AA-), the first downgrade of China by a major agency in fourteen years.
Of particular concern is the increase in “shadow banking” activity, referring to lending activity conducted outside of the formal banking system (such as corporate bonds and trust loans). Some of this is a natural consequence of the growing sophistication of China’s financial sector. However, there is a lack of clarity around products sold outside of the formal lending sector, and many are used to finance uncreditworthy projects. Fitch cited that total credit in the economy – including various forms of shadow banking activity – may have reached 198% of GDP at end-2012, up from 125% at end-2008. Other reasons cited by Fitch for its downgrade included the rising indebtedness of local governments, a lower fiscal revenue base than other comparably rated countries and a less favourable record on inflation management. Broader impact of Fitch’s downgrade is likely to be minimal in the near-term
While Fitch’s downgrade was the result of long-standing structural issues in China’s economy, its broader
impact is likely to be minimal. China’s credit rating remains relatively high by the standards of other emerging
markets. Furthermore, the downgrade was only on local currency debt, not on that denominated in foreign
currency (mostly in US dollars). This remains unchanged (at A+), thanks largely to China’s large foreign currency
reserves ($3.4 trillion at end-2012), relative to its foreign currency debt ($34 billion). China’s local currency debt
ratings by the two other major ratings agencies – Standard & Poor’s (AA-) and Moody’s (Aa3) – remain unchanged,
leaving them a notch higher than Fitch’s. However, Moody’s have cut their outlook to “stable”, from “positive”.
Furthermore, authorities have already taken some steps to curb credit growth, through measures to rein in
housing demand (for example, by raising mortgage down payments and restricting purchases of second homes)
and tackling local government indebtedness. However, the increasing prominence of the shadow banking system
may dampen the effects of these measures.
The main message from recent developments is that China’s recovery seems to be on softer ground than
most had expected, and so the overall outlook is a little more uncertain. On balance, we continue to expect
growth to gain momentum over the course of this year (picking up to 8.0%, from 7.8% in 2012), as the effects of
previously sanctioned state investment and looser monetary policy continue filtering through. However, this will
be weighed upon somewhat by efforts to rebalance the economy, and continued measures to curb credit growth.