By John Richardson
HERE is the good news about China’s latest interest rate cut and reduction in its bank-reserve requirement: Most people are at long last seeing these types of measures for what they really are, which is an attempt to reduce the short-term pain.
In the past, too many people – both short-term investors and the long-term planners in chemicals companies – would have interpreted these kind of stimulus initiatives as a signal that GDP growth would soon bounce back to Old Normal levels.
For several years now, this has quite plainly been mathematically impossible, given that for example China is paying some 17% of its total GDP in servicing existing interest payments. But for far too long, those who should have always known better – the long-term planners – conflated a recovery in financial and commodity markets, following another round of China stimulus, as a sign that the next five years would turn out be exactly like the last five years.
In this new great convergence, though, even commodity markets are telling chemicals company CEOs that a lot more pain is ahead: Oil prices actually fell on news of the latest China stimulus. In other words, there was simply no excuse left for misinterpreting last Friday’s decision by Beijing to further ease lending conditions.
Last Friday also saw the government further liberalise how banks can set deposit rates. The idea is to create more competition amongst lenders for deposits, which in the long term will have two positive effects:
- Higher deposit rates and thus interest earnings for the vast majority of Chinese savers. This will encourage more sustainable and broader-based consumer spending. Until now, consumer spending has been too reliant on the short term “wealth effect’ of the 2008-2013 stimulus package, which meant that a.) The levels of spending on autos, housing and other chemicals end-use markets we saw during those years were unsustainable and b.) This spending was concentrated in a relatively small, elite rich middle class who, because they were already rich, were able to take advantage of all this credit. Remember that because future consumer spending will be both more sustainable and broader-based, it will not involve vast fleets of more BMWs on China’s roads and millions more wardrobes stuffed full of Gucci handbags. It will instead be centred on affordability.
- Banks will have to be more selective about lending because of greater competition for deposits. This should mean fewer “soft loans” to oversupplied industries that are also bad for the environment. But whilst the move to further liberalise deposit rates is a step in the right direction, “vested interests” will continue to fight their rear guard action. It is silly, therefore, to think that China will any time soon move to a mainly high-value manufacturing and services-driven economy. Just as silly, in fact, as thinking that China is about to become a middle class country by Western standards.
Effective reform is instead going to remain a long and hard slog, as one of the people who have long been worth listening to – Diana Choyleva of Lombard Street Research – has again pointed out (see the above chart). This came in the form of her comments on the government’s announcement last Monday of official Q3 GDP growth statistics:
China’s real GDP data came in worse than we expected, raising the risk of a sharper downturn next year. Our preliminary estimates show growth at an annualised rate of just 2.9% in Q3, way lower than the official 7.2%. Year-on-year growth was 3.1% (official 6.9%).
The Q3 number changed the seasonally adjusted profile of our quarterly annualised estimate, lowering it to an average of just 3.5% so far this year.