Stimulus simply not on the cards

China’s financial markets and regulators are coming to terms with an undeniable US-China trade war, and at a time of China’s economic deceleration. The weakening economic data will no doubt test regulators’ mettle to continue focusing on de-risking the financial system. Recall that this de-risking is one of Xi Jinping’s “three tough battles” that aim to anchor policy, alongside poverty alleviation and protecting the environment.

Will regulators back down from being tough on local governments and SOEs? Alternatively, can they use the trade war as an excuse to go easier than they had said they would? We think not.

For several months, despite lofty data points, an economic slowdown in H2:18 was clearly imminent. This was underscored by the latest economic data showing that H2 – even without a trade war – was going to be challenging. Fixed asset investment growth dropped to 3.8% y/y in May, from average of 7.2% y/y in the first four months of the year. The sharp slowdown was driven by weak local government spending as regulators brought local profligacy to heel. In fact, across the board, macroeconomic data points such as retail sales, industrial production and credit are expanding by the lowest levels in a decade.

Analysts now are readying themselves for domestic stimulus. In fact, many have jumped the gun, interpreting the PBoC’s targeted cut to the reserve requirement ratio (RRR) as monetary loosening in the offing. The recent MLF injection of RMB 200 billion was interpreted in the same way. However, both the RRR cuts and MLF injection are not meant to boost lending, and have in fact been part of the policy landscape since late 2016. Instead, these moves are intended as a lifeline to especially the smaller banks because the de-risking campaign, which under Liu He’s stewardship remains steadfast, is starting to challenge banks’ ability to grow their traditional loan assets. Any move by the PBoC would have only a muted effect in terms of altering the direction of the data points and boosting overall growth.

Now, that doesn’t mean that support for the economy will be lacking. Rather, it will simply come through other – albeit less potent – channels that are consistent with China’s ongoing restructuring. Already, and putting the recent currency depreciation to one side, Beijing has undertaken several measures to ameliorate the burden on consumers. Moves have included the cutting of import duties on almost 1,500 goods; tax cuts and reductions in administrative burdens for businesses; and, fiscal expenditure on education, healthcare and poverty alleviation has accelerated. Therefore, policy support clearly is consumer-focused.

Of course, the escalating trade war with the US is preceded by what was an already entrenched logjam; it is about more than just deficits and surpluses. Just last week the White House Office of Trade and Manufacturing Policy published a report titled “How China’s economic aggression threatens the technologies and intellectual property of the United States and the world.” In China, however, reaction on the policy front to the trade war has been cautious. Beijing seems keen to determine where the limits are, rather than engage in retaliatory moves that would force the two powers further apart. For now, it seems that a trade war would dent GDP growth by less than one ppt, causing GDP to slip from 6.8% y/y to 6% y/y in H2:18. With 6% growth still within acceptable limits, any policy reaction by the PBoC would therefore likely be very considered and controlled.

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