China: Strong growth, fragile foundations

Schroders’ Emerging Markets Economist, Craig Botham, comments on the latest GDP figures from China … while it has defied the sceptics for now, we do not see much in the data to encourage us about the economy’s future.

China beat City expectations for GDP growth in Q2, posting a 7% year-on-year increase in activity, the same as in Q1. Sequential growth momentum improved, with a 1.7% quarter-on-quarter growth rate, up from 1.3% previously.

However, to us this does not look like a recovery built on strong foundations, and there is a parable about the man who built his house upon the sand.

Expectations for Q2 GDP had been lowered thanks to a slew of weak high frequency data, though June recorded one or two improvements. Still, industrial production grew just 0.1% faster, year-on-year, in Q2 compared to Q1.

Investment grew at an average pace of 10.3%, down from 13.5%, and retail sales also slowed, to 10.2% growth from 10.5%. Given that Q2 GDP last year was stronger than Q1 – providing a negative base effect – it seems odd that GDP did not slow. Certainly, our in-house model pointed to a consistent growth rate of around 6.3%, down from 6.9% in Q1. Can we reconcile the difference?

While it would be easy to claim this is a classic case of the authorities fudging the numbers, we will resist temptation. The breakdown of GDP provided shows the primary and tertiary sectors accelerated whilst manufacturing slowed. A further breakdown is not available at this stage, but we note that in Q1 a strong performance by the finance industry contributed an estimated additional 0.5% to GDP growth, thanks to brokerage performance on the back of the equity market rally.

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