China still strong says Fitch, despite quarterly deficit

China’s first quarterly defcit in its capital and financial account since 1998 does not undermine the argument for its strong medium term finances, says Fitch Ratings.

However, the news does suggest there could be a shift in ratings factors over the longer term.

The Chinese State Administration of Foreign Exchange released data this week that suggested the country suffered capital outflows of $71.5bn in the second quarter this year. Fitch said this was likely caused by Chinese firms investing overseas as well as some diversification out of renminbi by Chinese residents.

A full breakdown of the data is not yet available, so it is not possible to pinpoint precice factors, Fitch added. But the quarterly deficit contrasts with the surplus on the capital and financial account of $56.1bn in the first quarter of 2012.

“The Q2 reading has no immediate implications for China’s sovereign credit rating, which is supported by exceptionally large foreign reserves of around $3.2trn,” Fitch said.

“If capital outflows did sharply accelerate in the near term, this could feed through to the ratings if it caused significant economic or financial instability. However, we do not think capital flight from China is a short-term risk. China still has extensive capital controls, which we do not expect to be lifted any time soon. More fundamental factors, such as the current account surplus or the fall in inflation that has turned real interest rates positive, also limit the likelihood of a sudden rush for the exit.”

“In the medium term, if China’s balance of payments remains broadly in equilibrium, this would imply that its FX reserves position remains broadly stable, as it has since mid-2011. Assuming economic growth continues, FX reserves will gradually fall relative to the size of the economy (or imports). This would gradually reduce the importance of the FX reserves position as a rating support. We do expect China’s overall balance of payments surpluses to be lower in future than the annual average of 11% of GDP over 2004-2008, partly because the trade surplus is likely to remain lower.”

Fitch’s long term ratings on the country remain unchanged at ‘AA-‘ long term local currency, and ‘A+’ long term foreign currency.

 

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