Chinese equities have fallen to their lowest for six months amid a cocktail of concerns over growth, housing and a potential credit crunch. Can the authorities act to improve the environment for investors?
Guy Foster, head of portfolio strategy at Brewin Dolphin, says the latest housing data from China will have continued to confound policy makers.
“House prices are showing little sign of the hoped-for moderation,” he notes. “Instead, property market strength seems to be broadening, creating subtly interlinked social and economic problems for the Chinese authorities.
“With a closed capital account and history of negative real interest rates, wealthy Chinese have a natural propensity towards property investment as a home for savings. The weakness of equities as an asset class has only intensified this tendency.
“The Chinese authorities now have a real challenge on their hands in their attempts to rebalance the economy from investment to consumption. Efforts to burst the bubble rapidly would inevitably impact on consumption as households would feel compelled to rebuild home equity.
“Further capital account liberalisation looks a long way off and so we expect policy to continue to restrain credit creation and, by implication, growth in China.”
Tao Wang, economist at UBS, warns that the risk of a credit crunch – which could jeopardise China’s growth prospects – has increased recently.
“A drop in FX inflows in May and holiday demand – plus unseasonal tax-related liquidity demand – explain only part of the recent liquidity tightness,” she says. “The rest is due to banks’ aggressive credit expansion in early June and the People’s Bank of China’s decision not to backstop banks’ every demand for liquidity.
“Banks have perhaps misjudged the PBoC’s policy direction. With economic data disappointing and inflation low, many had expected liquidity to keep flowing or monetary conditions to be eased further.
“But the PBoC has made it clear that overly rapid credit expansion would not be accommodated. Moreover, regulators are reportedly preparing steps to clean up interbank activities.
“The central bank and other regulators must tread very carefully in coming months to minimise the chances of an unexpected break in the liquidity chain or unwanted credit crunch.”
Jean Médecin, a member of Carmignac Gestion’s investment committee, acknowledges that China suffers from an unbalanced economy – but says it still has much to offer investors.
“While the investment contribution to economic growth has declined over the past three years, the consumption contribution has been usefully resilient. This consumption will be helped in the years ahead by increasing urbanisation of the population and household income growth which will boost sectors such as leisure and consumer goods.
“The new Chinese leadership knows what needs to be tackled, including pollution and corruption. Investors dismayed by the lack of reforms announced so far should remember that it is not unusual for new leaders to take their time before enacting new policies.
“It is a good sign that the authorities have resisted the temptation to respond to the economic slowdown by splashing out on credit financed projects with limited economic return – it indicates that China is serious about tackling imbalances in the economy.”
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