Using cheap stimulus to increase investor sentiment in China
June 7, 2019
With just a modest boost to credit, the Chinese government succeeded in strengthening investor sentiment and stabilizing real economic activity during the first quarter of the year.
The growth rates of income, retail sales and industrial production were stronger than in the fourth quarter of last year, without a dramatic stimulus. The central bank has signalled that it is comfortable with growth prospects for the coming quarters, so any additional stimulus will likely be even more modest.
In my view, the biggest weakness in China last year was poor sentiment among the country’s entrepreneurs and investors, despite reasonably healthy macro activity and strong corporate earnings growth. This provided the government with an opportunity to take several inexpensive steps to boost sentiment.
As expected, the state-controlled banking system increased credit flow during the first quarter, but the increase was modest. The growth rate of outstanding augmented total social finance accelerated to 11.3 per cent year-over-year in March, up from 10.8 per cent in February and the first month over 11 per cent growth since September.
Beijing also refrained from turning on its traditional public infrastructure stimulus taps. Infrastructure investment rose only 4.4 per cent in the first quarter, compared to five per cent in the last quarter of 2018 and 13 per cent in the first quarter of last year.
The other steps taken by the Chinese government to improve sentiment were:
– Intensive and apparently flexible negotiations with the Trump administration, leading to expectations that the tariff dispute will not escalate into a trade war.
– Xi Jinping resumed his rhetorical and policy support for China’s private firms, which account for most employment and all net new job creation in China.
– Value-added taxes and personal income taxes were cut, delivering a boost to consumer and producer sentiment.
The most striking impact of all of these steps was that during the first quarter, the Shanghai Composite Index (A-shares) rose 24 per cent, and as of May 21 was still up 17 per cent year-to-date.
Improved sentiment also delivered a modest boost to economic activity. Most first-quarter macro numbers were stronger than expected: up from the fourth quarter, although still weaker than during the first quarter of 2018.
The most disappointing data point signalled that privately owned firms remained cautious in the first quarter, as their investment rose by only 6.4 per cent, down from 8.7 per cent in Q4 2018 and 8.9 per cent a year ago. I will be watching closely to see if the confidence of China’s entrepreneurs returns later this year.
In the coming quarters, I expect to see additional modest improvement in macroeconomic conditions, due in part to stabilizing sentiment and a weaker base. I also expect that growth rates for corporate earnings will remain healthy, although a bit slower than last year. The biggest risk to these expectations would be the failure of Trump and Xi to reach an agreement to avoid a trade war.
While a Trump—Xi trade deal is likely, it will not resolve the longer-term challenges in bilateral relations. But, taking a trade war off the table is a prerequisite for starting to address those challenges.