Pioneer’s Mauro Ratto reviews Chinese policy stimulus in action
Mauro Ratto, head of Emerging Markets at Pioneer Investments, has looked into the latest Chinese economic stimulus policy in action.
How do you evaluate China’s recent GDP data?
It confirms a downward trend in growth, but hardly supports a scenario of “hard landing”. Admittedly, China’s economy expanded 7.6% year over year in the second quarter, marking the sixth straight drop and a near-halving compared to the cycle peak of Q1 2010. The reason why investors welcomed the news is that the slowdown looks still moderate compared to what happened in 2008. What is more important is that the Chinese officials appear to be ready to step up their expansionary policies both on the monetary and the fiscal side.
What concrete measures have been taken to stimulate growth?
The People’s Bank of China (PBOC) has focused on stimulating economic growth since last year, due to concerns about slowing economies in Europe and the US.
We think it was timely enough to switch policy after focusing on fighting inflation for about two years. The second-quarter GDP report came on the heels of a rate cut fully consistent with this new policy. This policy action is likely to proceed apace, as risk scenarios such as the EMU debt crisis remain a threat.
Admittedly, the Chinese economy is not threatened by a conventional recession (meaning GDP shrinkage) but a sharp slowdown would seriously hurt other economies and would not be welcomed by a political class that is going through a generational change.
What is to be done next?
The work is barely half-finished. Rate cuts are thus poised to continue and they may not be the only tools available to revive the credit market and give the economy a boost. The PBOC has been lowering the banks’ reserve ratio well before starting to cut rates. Both policy rates and the reserve ratio may need to come down jointly, if economic indicators do not improve any time soon.
Close attention will be probably paid to manufacturing indices, which are closely related to the global economy, notably to the purchasing manager index: this is still far above the crisis levels of 2008 but nonetheless is worth monitoring as the downward trend consolidates and its level is close to the expansion threshold of 50.
What are investors making of these policies?
Chinese officials look more confident than financial markets, whose concerns over a hard landing rarely recede. Investors appear to show renewed confidence when they hear good news also from other major regions. US economic and corporate data seem to provide additional support when they are upbeat. Last week’s positive reaction to Chinese data was probably favored by positive evidence on corporate earnings, notably by a leading bank such as JP Morgan, which reported good second-quarter earnings thanks to reviving lending to businesses and this should be a sign of a buoyant economy.
Does investors’ caution seem justified?
Other regions are still a matter of concern and here the EMU debt crisis hangs over again.
If the global scenario is more mixed, investors remain pretty cautious over China’s ability to stimulate growth.
However, we believe that other measures recently adopted by Chinese officials are worth mentioning as they aim to increase the contribution of domestic demand to GDP growth. The long-run potential for this structural change is high and should made easier by the steady growth of the middle class. Making the economy less export-oriented appears wise, as Europe’s problems have already weighed down on China’s exports and threaten to do the same over the coming quarters should a recession grip peripheral EMU countries in the wake of the sovereign-debt crisis.
So what are the implications of your views?
We are mindful about increased volatility in the summer season, but the scenario we envisage makes the case for an overexposure to Chinese markets along with the rest of ex-Japan Asia.
We still believe in a soft landing of the Chinese economy, with GDP growth bottoming out at 7-8% and then picking up again as policy makers use all levers to prevent a sharp slowdown. Most remarkably, China has ample room for fiscal easing, unlike most developed countries, and this kind of stimulus can help the economy move back to a faster track. In the last decade, while the developed countries accumulated debt, emerging markets exhibited a diametrically opposite trend. Back in 2000, based on IMF sources, the debt / GDP ratio for developed economies was 73% versus 49% in emerging economies. As of last year, the gap has continued to increase: the developed economies posted a ratio of 104% compared to 36% for emerging economies.