China’s economy is slowing from the heights achieved last year, having decelerated for the past four quarters – and consensus expects a below 10% reading for the second half. Is this the Olympics slump suffered by countries like Greece and Spain rearing its ugly head?
Many Olympic host countries suffer a period of slower growth following the Olympics after the investment boom triggered by infrastructure development is withdrawn. While China does seem likely to suffer slower growth in the next year (more on that below) it doesn’t seem fair to blame the Olympics – After all, as big as Beijing and the Olympics are, they represent a small amount of China’s output. Just as the inherent power of the Olympics to bring democracy and human rights is limited, inherent economic gains (or losses) from the games could be overstated – but a post-Olympics slump isn’t good timing even if its coincidental.
More developed economies actually have more to fear from the withdrawal of an infrastructure windfall. Perhaps it is places like my hometown, Vancouver, which should be more worried about an Olympic slump after 2010. Olympics related investment has boosted the construction sector in the west coast – but that’s a topic for another time.
Given the degree of ongoing investment, the Olympics could actually delay development – Caijing reports on the temporary halt to real estate development in Beijing
Reports of discounting of Beijing hotel rooms suggest that the tourism bump may be less than expected and some sponsors are already second guessing the benefits of Olympic product placement
However, China has a special wrinkle that might increase the economic cost of the Olympics – pollution control. China has ordered factories in the provinces surrounding Beijing to shut and sharply reduced the cars on the street in an effort to increase the breatheability of Beijing’s air. As I suggested some months ago, additional Olympic power demands would be offset by the closures.
With the factories being shut it does seem likely that we will see an Olympics related effect in the Q3 data –government restrictions to ensure power supply and pollution control may already be affecting China’s output. Yet, reports suggested that some factories were working at extra capacity before being shut – and perhaps they might do so again once they are allowed to restart.
Some worry that Chinese oil stockpiling ahead of the Olympics or replenishment of any reserves tapped after the earthquake may be contributing to elevated demand for oil – which might partly explain why its energy exports have remained at record levels while metal imports have slowed.
But the infrastructure put in place because of the games, including solar energy, rapid transit as well as the facilities and product placements could put some Chinese companies in good stead in future years.
Bottom line: the economic effects of the games will be hard to decipher from other effects, so perhaps we should just enjoy the games.
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China’s growth outlook
But Olympics aside, the 12 -18 months look to be a challenging time for China’s economic policymakers. While China’s long-term growth outlook seems robust, the above-10% growth rates of recent years may be at an end.
Industrial production is slowing – the export sector no longer has quite the same cost advantages – workers may be unwilling to take the same cheap salary and the RMB appreciation in The Manufacturing sector seems to be particularly hard hit (at least in terms of volumes). Manufacturing PMI as reported by the Federation of labor fell under 50 in July for the first time since they started reporting data – this suggests a contraction.
The June/July figures seem to indicate that this is more than just a seasonal blip. As reported in more detail (see Li and Fung’s report) 6 of 11 indices including New orders, export orders and output indexes all saw record lows and fell below 50. 14 of 20 industries reported a contraction in output. So far other sectors seem to be more robust.
Yet there are signs that consumption is on the rise – retail sales accelerated in real terms over the past few months despite 8% inflation in the first half. How sustainable is this?
Yet at the same time auto inventories are growing. This doesn’t sound like a good sign and may reflect differences between rural and urban spending patterns. While rural incomes have been rising – and outstripping urban incomes in growth, it is from a very low base. With corporate profit margins waning and the incentives to save still in effect, how strong can the Chinese consumer be?
Meanwhile, the loss of wealth from asset price busts doesn’t help. Parts of china’s south East (the same places where factories are closing) has had collapsing housing prices and those in some other centers have slowed, raising the prospect of more defaults, and slower construction spending. Already the balance sheets of Chinese banks may reveal more non-performing loans.
Exports to Europe which outpaced those to the U.S. in the past year – in part because the yuan continued to fall against the Euro despite its appreciation against the dollar – have started to slow as those economies slow. Now exports to Western Europe have slowed and Eastern Europe could follow. Intra-Asia trade seems unable to sustain a G7 slowdown inching towards recession. Furthermore, should the price of oil continue to fall the demand from countries like Russia and oil exporters in the middle east, might also fall.
Yet, government policies may limit the growth deceleration. The recent politburo meeting threw support behind the pro-growth contingent – fx appreciation has slowed to a halt and today officials relaxed some of previously-imposed lending curbs, as long as banks targeted such loans to rural areas and small companies. But Chinese officials have had difficulties controlling the boom on the way up as the trade surplus and reserves soared, and it may be more difficult to do so on the way down especially as it is forced to do so in a rather hostile economic environment. Yet, unlike some of its neighbors China does have fiscal tools at its disposal to encourage consumption but it seems to be reverting back to old tools, tying the exchange rate, export subsidies and the like – which may be only short term solutions.
So what does this all mean for Commodities?
China’s slowing growth and prospects of a recession in many g7 countries seems to add up to a slowing of demand growth which would mean prices would come under even more pressure.
China has been a big driver of commodity demand in the past five years, absorbing massive amounts of base metals, precious metals, coal and oil. In fact nearly all of the oil demand growth has come from emerging market economies, fueled in part by fixed below market prices.
Yet, Chinese demand isn’t going to flatline. Given its stage of development, it will still absorb significant amounts of resources—but the expectations of demand growth might be a bit overly optimistic.
Chinese imports of iron ore, copper, zinc slowed in H1 – including a 20% decrease of copper imports from May to June. One explanation– at high prices solutions will be found including increasing domestic production.
Part of trying to encourage a more sustainable growth path is reducing overcapacity in energy-guzzling heavy industry. The decision to decrease Aluminum output could have implications for coal demand – but all in all it may just be a temporary measure to avoid further stressing the power supply this summer.
But there are some caveats – if the Chinese government puts its firepower into avoiding sub 8-9% growth, that could mean more investment, supporting demand for some commodities. China infrastructure investment might go ahead even if the global economy slows – other such countries include Russia and the GCC and some countries in North Africa. While some projects might be delayed, there is enough government backing that most should not be reversed – and they might still provide a cushion for the domestic economy and a floor for commodity prices, even if we haven’t reached it yet.
Note – Many thanks to Chris Viemeister for sourcing some of the data for this post
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