China slowdown shows debt addiction will be tough to shake

[BEIJING] China's run of disappointing April data underscore the bind facing policy makers seeking to cut capacity from the worst-performing sectors and curb credit excesses in recovering ones without stalling the economy.

Bloomberg's monthly gross domestic product tracker shows growth slowed to 6.88 per cent in April, from 7.11 per cent in March. Weak steel and coal output dragged on industrial production, which increased 6 per cent from a year earlier versus economists' forecasts of 6.5 per cent, while retail and investment readings also disappointed, according to reports released on Saturday. A day earlier, data showed a slump in new credit last month.

China's central bank was quick to reassure that monetary policy would continue to support the economy, with a statement Saturday that sought to explain the lending slowdown. The tepid readings hours later underscored China's plight, showing growth remains overly reliant on debt, and when credit moderates, so too does the economy.

The April readings marked a sharp swing in fortunes, especially in new credit: where March saw aggregate financing jump by more than all economists had forecast, April's number undershot all 26 predictions. Such gyrations - long a feature of the nation's stock market - add to the challenge for policy makers and foreign investors seeking to get a read on an economy caught in a multi-year slowdown and struggling to stabilize.

"Even with substantial stimulus at work, the accumulated problems of high debt and industrial overcapacity mean that the pass-through to stronger activity remains decidedly muted," Bloomberg Intelligence economists Tom Orlik and Fielding Chen wrote in a note. "The fact that only policy-driven sectors (infrastructure and real estate) are doing well is a reminder that stimulus has yet to revive the animal spirits of China's entrepreneurs." That leaves the world's second-largest economy increasingly reliant on the debt-dependent drivers of property and government-backed building programs. Even retail spending - one of the economy's strongest props - moderated last month as a car-buying frenzy spurred by earlier government programs encouraging purchases cooled.

The Shanghai Composite Index rose 0.8 per cent, after earlier fluctuating near a two-month low.

One area that remained strong was property: New-home sales gained 63.5 per cent to 793.7 billion yuan (S$166.96 billion) from a year earlier, according to Bloomberg calculations based on data the National Bureau of Statistics released Saturday. The increase followed a 71 per cent surge in the previous month.

Some Chinese cities unveiled tightening measures starting in mid-March, to rein in rapid gains in house prices and a home-buying surge that followed government stimulus measures. Among the cities to impose curbs were Shanghai and Shenzhen, where new-home prices soared 25 per cent and 62 per cent in March from a year earlier. Suzhou, Nanjing and Langfang have also introduced tightening measures.

Policy makers are now applying the brakes on a key growth driver, while simultaneously vowing to cut capacity from industries mired by deflation and oversupply, such as coal and steel.

"April monetary and fiscal data indicate some tweaking of policy away from a very stimulative stance," Goldman Sachs Group Inc economists including Yu Song in Beijing wrote in a note. "We expect 2Q policy stance to be less supportive than 1Q but not to show a complete U turn to an outright tight stance, especially given the signs of moderation already evident in the April growth data."

Top leaders last week signaled a shift away from debt- and stimulus-fueled growth, stressing the need for deleveraging, upgrading industrial capabilities and cutting excess capacity. Yet China's central bank on Saturday sought to reassure investors that monetary policy will continue to support the economy.

The deceleration in April credit was mainly due to a pick-up in a program to swap high-cost local government debt for cheaper municipal bonds, with no less than 350 billion yuan of such swaps conducted last month, while aggregating financing growth was affected partly by a decrease in corporate bond issuance, according to the central bank.

China's monetary policy remains prudent and policy moves must support economic growth while fully considering the impact on future prices and the need to prevent financial risks, People's Bank of China research bureau chief economist Ma Jun said in an e-mailed statement from the bank.

Throwing the multiple policy signals together, it seems China is in for more of the same for a while - a patchwork of monetary tools aiming to keep liquidity ample without spurring further unsustainable increases in debt, with fiscal support targeting investment to pet projects like shantytown development and improved drainage systems.

"Monetary and credit conditions remained fairly accommodative overall," said Yao Wei, a Paris-based China economist at Societe Generale SA. "We expect credit growth to decelerate soon, albeit gradually, which should be what policymakers hope for as well."

BLOOMBERG