The Federal Reserve has taken its foot off the brake, the stock market has rallied 20 per cent since the start of the year, the currency is at seven-month high, and the American president apparently wants to put the trade dispute behind him. 

Throw in a lending splurge in January, sprinkle it with expectations for more monetary easing, and investors in China could be forgiven for being in party mode. 

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But a hangover looms. The headlines may suggest things are looking up for China, but the forces that were dragging growth lower at the end of last year are still in place, and their impact is likely to become clearer as 2019 progresses. 

Markets have been helped by the relative data blackout which marks the start of the Chinese calendar year. Owing to disruptions caused by the lunar new year holiday, most official data for January and February are lumped together and released from the second week of March. Even then, such is the impact of the holiday that first quarter data tend to be more informative, and that means waiting until the third week of April for a clear picture of what has happened. 

In this data vacuum, isolated releases can have a big impact. This partly explains the enthusiasm which greeted January’s credit data from the People’s Bank of China. However, there was less than meets the eye to the record volume of new bank lending and other funding. 

The big drivers of credit were short-term bank loans and bill financing, which has fuelled a profitable trade for corporate clients in lieu of banks granting them longer-term loans to invest in productive assets. Regulators are now cracking down on that trade and, given the usual seasonal distortions, the PBoC itself has suggested waiting for the full-quarter data to get a better idea. 

January trade data were also encouraging on the surface, particularly after December’s horrible numbers. However, export orders may have been pushed from December as companies felt less urgency to front-load orders after the US and China agreed a ceasefire to their trade dispute. At the same time, the onset of the lunar new year holiday still meant the seasonal rush to fulfil shipments before the holiday started in early February. 

Even as the effect fades of companies front-loading orders on fears of higher US tariffs, exporters are still faced with the threat of slowing global growth. Evidence of weakening global growth — not least in China — is mounting and central banks are getting worried. Our own measure of Chinese exporter conditions suggest this has been the weakest start to the year since the economic turmoil of 2016. 

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The purchasing managers’ index produced by the China Federation of Logistics and Purchasing, one of the few official or semi-official series released in the first two months, showed a third month of contraction in February, a reminder that the manufacturing sector continues to struggle. A similar survey published by Caixin showed a slight improvement for February, but ongoing contraction overall. 

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While consumer sentiment has largely held up, the growth of spending slowed to a two-and-a-half-year low in February. Tax cuts announced so far have done little to boost household consumption, our monthly consumer survey suggests. 

The government cannot rely on households to support economic growth when other key drivers are faltering, which is why it is again trying to boost infrastructure investment. Real estate — that other great driver of investment — is still off-limits for policymakers. 

However, a meaningful increase in infrastructure investment will be difficult to engineer without a significant increase in local government debt issuance and a relaxation of the constraints on the shadow banking channels which fund so much of this investment. 

For sound policy reasons, the government is still reluctant to allow this. Projects worth a record Rmb784bn were approved in December, and another Rmb184bn so far this year. However, most of these are not shovel-ready — they are mostly in planning stage, with feasibility studies, approvals and, most importantly, funding still required — and that means they are unlikely to boost growth in the near term. 

China’s leadership may confirm at next week’s National People’s Congress that this year’s quota for issuance of special local government bonds, which are sold to fund infrastructure, will be increased to Rmb2.2tn. However, nearly half of this may go towards prepping land for sale. The remainder is equivalent to less than 7 per cent of total infrastructure investment in 2018. With land sales also likely to remain subdued this year owing to strained developer finances, local governments and their associated companies will struggle to support infrastructure investment. 

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If the government really wanted to see a strong growth rebound, it would remove the shackles on shadow finance and the constraints on buying property. That it has not done so until now reflects some commitment to tackling financial risk — a task that President Xi Jinping last year explicitly tied to China’s national security. 

A less hawkish Fed and reduced threat of more US tariffs are certainly positives for China’s macro story this year. Portfolio inflows, which helped boost the domestic bond market last year, may do the same for stocks after MSCI increased the weighting of A-shares in its indices. 

However, the economic slowdown that took hold in 2018 was largely the product of internal forces, driven by official concerns the economy had been borrowing to grow for far too long. Although the government may face increased pressure to relax its stance this year, that overarching calculus has not changed. 

FT Confidential Research is an independent research service from the Financial Times, providing in-depth analysis of and statistical insight into China and south-east Asia. Our team of researchers in these key markets combine findings from our proprietary surveys with on-the-ground research to provide predictive analysis for investors.

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