China’s full year GDP growth of 6.9% year-on-year in 2015 came in line with market expectations, but its quarterly rate and momentum slowed a bit more than expected to 6.8% y-o-y and 6.4% seasonally-adjusted annualized rate, respectively (see figure 1, below). Today’s headline GDP numbers highlight how policy support – through fiscal and monetary channels – is moderating the growth downturn, and limiting large downside surprises.
However, policy support remains unlikely to do much more. We doubt if countercyclical easing can stabilize or somehow result in a significant uplift to the trend moderation in growth. This point was underscored by the accompanying industrial production and retail sales data for this past December, both of which disappointed market expectations.
The growth of industrial output slowed to 5.9% y-o-y (the market expectation was 6%) as manufacturing, mining and construction continue to struggle with excess capacity, falling profits and growing dependence on bank credit (or other forms of policy support) to stay afloat. Meanwhile, retail sales also came in a bit weaker than expected, at 11.1% y-o-y (market expectation: 11.3%). The overall buoyancy of services, and its contribution to GDP growth, may have been a bit more restrained by the pay-back from the high base effects of financial services activity. Financial services activity had run up significantly a year ago, on account of the large appreciation of the Shanghai stock exchange. Its subsequent downturn should dampen services activity further in the months ahead, though somewhat offset by the modest upturn in the housing market which has recently seen some price increases and an uptick in sales.
Looking ahead, the contribution of industry, to overall real GDP growth (See figure 2, below), could slow to below a 2 percentage points (ppts) handle in 2016 and we expect the service sectors’ contribution to also slow this year to around 4ppts. This is because of the downturn in financial services and as non-manufacturing activity comes under greater pressure from the ongoing industrial slowdown in the remainder of this year, notwithstanding the structural/secular rise of new service sector industries. Agricultural (primary sector) activity should continue eking out 0.3ppts contribution to overall growth in the year ahead. The effects of the industrial slowdown, accompanied by rising financial leverage and deteriorating asset quality at Chinese banks, will be felt across global markets (EM and commodities) as well as raise the urgency for faster reforms to cut capacity and alleviate industrial deflation.
Downside risks to the growth outlook continue to arise from the financial volatility unleashed by the confusing signals sent out by the management of FX policy and the inept handling of the country’s stock exchange. The former is important for limiting confidence-sensitive capital outflows, and the latter remains a key ingredient for IPOs of emerging service sector companies and privatization of inefficient SOEs.
We continue to stick with a below consensus growth forecast of 6.2% yoy for 2016 (consensus is at 6.5%), and see the balance of risks as tilted to the downside mainly on account of the financial volatility which could remain a recurring feature of the macro and policy backdrop and weigh on the efficacy of much further monetary easing. We believe additional fiscal easing, especially through the central government’s balance sheet, has the strongest chance of limiting downside growth risks, but, the central government's track record of fiscal pump-priming remains weak.
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