Optimism in China Over May Economic Numbers and Surprise Cut

by CFO Innovation Asia Staff, 11 June 2012

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Risk Management

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China GDP China interest rates

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Industrial production in China grew 9.6% year-on-year in May, exports rose 15.3% in the same period, sales of passenger vehicles were up 22.6% – and inflation fell to 3%, below the expected 3.2%.

The May figures were announced days after the People’s Bank of China (PBOC) made surprise cuts on 7 June to its benchmark lending and deposit rates by 0.25 of a percentage point. The central bank also relaxed the limit that banks can set their base lending rates, to 80% of the benchmark rate from 90% previously. As well, banks are now allowed to pay as high as 110% of the PBOC benchmark deposit rates.

“In our view, the step to soften the policy rate corridor is not only a step to make banks more competitive – it is a prelude to interest rate liberalisation, which is becoming a hot topic after the governor suggested earlier this year that the market is ready for interest rate reform,” reckoned the Royal Bank of Scotland in a report.

The surprise rate cuts had set up expectations that the May numbers would be horrendous, but the figures actually reported proved them wrong. “It is almost certain that China’s economy will bottom out in the second quarter and rebound in the third quarter,” HSBC economist Ma Xiaoping told the Asian Wall Street Journal.

In addition to easier lending, China has recently announced some tax cuts, incentives for consumers to buy energy-efficient household appliances and faster approval of investment projects by businesses and local governments.

Other analysts are more cautious, noting that monthly figures can be volatile. There is also some uncertainty over the International Monetary Fund’s announcement on 8 June that it now considers the renminbi as “moderately undervalued against a broad basket of currencies.”

On one hand, the IMF assessment will defang the argument by the US and Europe that China is deliberately keeping the currency cheap to make its exports unfairly competitive. On the other hand, the IMF assessment was based in part on China’s sharply declining current-account surplus and stronger currency. Both indicators imply continuing slower growth in exports.

The good news is that China clearly recognizes that it needs to focus on domestic consumption and investment to keep the economic engine going. One measure that analysts will be closely watching is overall retail sales, which expanded 13.8% year-on-year in May – but slowed from 14.1% in April.

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Source: Moody's Investors Service

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CFO Innovation Asia Staff

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