China: Getting prepared for lower growth
The latest data confirm the macroeconomic environment remains challenging for China. China’s credit impulse, which leads the real economy by 9 to 12 months, has improved since Q3 2018, but the inflow of new credit is not stimulating yet the economy on a broad-based level. Domestic demand is still weak, as pointed out by the latest import figures (Q2 total imports were down 3.9% versus minus 4.4% in Q1) and by the contraction in auto sales (minus 3.4% YoY in August). Compared with previous quarters, data are slightly improving, but the domestic economy is still under severe stress. On the top of that, the export industry is suffering from external headwinds, notably the impact of trade war and lower global growth. The latest new exports orders data are slightly better, including for small and medium companies, but they are still deeply in contraction territory. Industrial production is also sharply decelerating, at 4.4% YoY in August, which will weight negatively on GDP performance in Q3 and Q4 this year.
Stimulus is kicking in well in infrastructure and in the real estate sector, which represents roughly 80% of Chinese people’s wealth. Completed investment in real estate – a key driver of growth – continues to grow more than 10% YoY, which was the case almost all year long. We believe that as long as the real estate sector will stay well-oriented, China will refrain from a massive easing which has been constantly awaited by market participants over the past months. In our view, China is fully aware that a massive credit stimulus program, as was the case in the wake of the global financial crisis, implies high costs for the Chinese economy. Not only it is likely to increase bubbles and misallocation of capital but, in addition, the effectiveness of credit stimulus is questionable: the country needs twice as much units of credit as in 2009 to create one unit of GDP.
Recent comments from PBoC’s officials to foreign counterparts seem to corroborate this view. Chinese officials are getting the market prepared for lower growth, probably below 6% next year. They want to make clear that there is political tolerance for a lower growth level and that it will not be a problem for the economy. At this stage, the market does not seem fully prepared to this shift, so Chinese officials will have to implement appropriate pedagogy in coming months in order to avoid negative investor sentiment.
Rest of the world: A welcomed policy reversal
As China is implementing a fine-tuning policy, other countries need to take the lead in order to stimulate the global economy. We bet on central banks going big in coming months and fiscal stimulus popping up to cope with China’s importing less, trade war friction and global slowdown. According to our count, more than 40 central banks over the world have reversed their monetary policy in the past few months in order to ease. As we all know, fiscal and monetary push take some time before having a positive effect. In other words, it means it’s going to get worse (Q3-Q4 2019) before it gets better (Q1-Q2 2020).
Our favorite macro gauge, the global credit impulse, which is based on the flow of new credit from the private sector in the 18 biggest economies and expressed as % of GDP, is finally turning. It leads the real economy by 9 to 12 months and currently points out to a potential global growth rebound in H1 2020, mostly driven by the United States. Based on our latest update, US credit impulse stands at its highest level since early 2018, at 1.2% of GDP. The positive trend is also visible in demand for C&I loans which has been solid over the past quarters, reaching a peak at 9.3% YoY in Q1 2019.
Considering the United States is in late cycle and impacted by the trade war, the economy is rather resilient: housing data rebounded in August, with positive surprise for building permits and housing starts, and US consumer spending are very strong, probably related to mortgage refinancing and lower rates. It seems that US households are already adjusting to monetary policy pivot and the new low rate environment, which drives away the specter of recession.
In Europe, we think that a technical recession is a done-deal for Germany, but not so much for the UK. The combination of stockpiling and positive consumer sentiment ahead of Brexit deadline could postpone once again this scenario. Despite growth slowdown is broad-based in Europe, we don’t expect much from ongoing 2020 debates over budget. The problem is that a fiscal push in Europe is dependent on Germany’s good will. In theory, the country could announce a massive fiscal stimulus up to 5% of GDP and still respects Maastricht criteria. However, based on the latest debates in the Bundestag, it is unlikely to happen. The only events that could change the mind of German politicians and move them away from fiscal conservation are a hard Brexit and/or US tariffs against Europe (following US’s victory in Airbus case).
In emerging markets, the situation is completely different. Most countries have plenty of room to accommodate the global slowdown. Unlike the period preceding the global financial crisis, no major emerging country is constrained both on the fiscal and monetary space. Some, like Russia and South Korea, can even accommodate on both. What is certain is we focus a lot on what the ECB and the Fed are doing, but the evolution of global growth will also be very dependent on emerging markets policies this time.