CHINA: STABILISATION IS FRAGILE
The crash in local equity markets triggered fears of a hard landing in China. There is an obvious difference between Chinese equity markets in which foreigners can invest (such as MSCI China) and segments driven by domestic retail investors. In the latter, share prices are driven much more by speculation than by economic developments. Nevertheless, the Chinese government intensified its efforts to stabilise equity markets. The angst of China’s authorities is probably due less to fears about possible harm to the real economy via a negative impact on wealth (see also WSU from 9 July) and more to concerns over the effect on the real estate market. Avoiding a spillover effect on sentiment is probably the main motivation, given that the Chinese economy is labouring under the weight of overinvestment, housing markets under pressure and strong credit expansion.
Despite China’s Q2 2015 GDP growth data coming in unchanged at 7.0% YoY, there was in fact a slight gain in momentum during the quarter. June data underpinned this positive tone, with most numbers – such as industrial production (6.8% YoY) and retail sales (10.6% YoY) – surpassing expectations. The government’s broad range of supportive measures in recent months also seems to have stimulated lending activity – witness the sharp upward trend in new loans in June, which rose to RMB 1.28 trillion, the highest level since January. Signs of a stabilisation in economic data gave some comfort to markets. We don’t expect a major turnaround in economic activity. Trend growth is heading down further. Additional government measures can be expected to try to moderate this.
Reminders of the fragility of China’s situation came in the form of a renewed plunge in Chinese equity markets on 27 July and the drop of the Caixin (previously HSBC) China manufacturing PMI to a 15-month low of 48.2 in July. This reflects not only China’s growth problems, but also the headwinds from world trade on industrial activity globally. It also reflects varying kinds of problems in different emerging markets: for example, in Brazil the unemployment rate in June rose to a near 5-year high of 6.9%, and in Russia there is no halt yet to the slump in retail sales, which fell by 9.4% YoY in June.
Softness can be also seen in other parts of the Asia Pacific region. Japanese exports dropped by 2.6% QoQ in Q2, although there was a more positive tone at the end of a poor quarter. Exports and imports improved quite strongly in June and PMI manufacturing for July improved to 51.4, the best reading since February. GDP in Singapore plunged by 4.6% saar in Q2. South Korea’s GDP growth more than halved to just 0.3% QoQ in Q2. New Zealand responded to weak commodity prices and a softer growth outlook with a rate cut of 25bp to 3.0%. The country’s central bank indicated that “further easing is likely”. The Australian central bank also said that rate cuts remain on its agenda.
US: FED MOVING ONTO THE RADAR
“If the economy evolves as we expect, economic conditions likely would make it appropriate at some point this year to raise the federal funds rate target, thereby beginning to normalise the stance of monetary policy”, said Fed chair Janet Yellen before the Committee on Financial Services. We have the impression that markets are still not yet fully listening to the Fed. The statement after the FOMC meeting also points towards a readiness for hiking, albeit not pre-determined and highly data-dependent.
Data flow over recent weeks, although mixed, was in line with our expectations of the US economy regaining traction and a first Fed hike in September likely. While the University of Michigan consumer confidence survey fell in July to 93.3, it nonetheless remains at lofty levels last seen before the Great Financial Crisis. In a global context, the rise in US industrial production in June (up 0.3% MoM) and the rise in capacity utilisation don’t look too bad. The housing sector has been a particularly bright spot. The momentary drop in new home sales in June moderated the Q2 YoY rise, but this was still 19.4%. Sentiment is improving and house prices are on the rise. Housing starts and building permits continued their strong upward trend in Q2 compared to previous quarters, rising by 17.0% QoQ and 16.8% QoQ respectively.
So although external factors could delay the coming Fed rate hike, we do not see any domestic reasons for that, given the stronger rate of economic growth. The weak CPI inflation data showing + 0.1% YoY in June should also not prevent a gradual tightening of monetary conditions. In our view, financial markets still seem to be underestimating the Fed’s willingness to start normalising rates sooner than 2016.