Risk of hard landing persists
Economic forecasting is a challenging task at the best of times. For a non-standard economy like China, it is even more difficult; the government has more levers of influence, policy changes are not part of the public dialogue and indicators are less transparent.
Some of the best insights we have available come from the Economist Corporate Network and the affiliated Economist Intelligence Network. We recently attended several events in Shanghai, where analysts from the Economist explained their views on China’s GDP growth, the property markets and exchange rates.
The Economist trimmed their prediction for 2016 from 6.7% to 6.6%. They see growth slowing further in 2017 and again in 2018. The reason for this pessimistic forecast is that China has not implemented the promised economic or political reforms. These reforms are necessary to buoy productivity. In particular, reform of state owned enterprise (SOE) has not taken place nor is it likely to happen with so many political obstacles. SOE’s control and limit the opportunities for private investment. Private investment always has better ROI than government investment. Debt is another factor, and over investment in property and in steel are yet another factor.
China’s economy is growing at two speeds: the manufacturing sector is struggling to expand, but the consumer driven services sector is thriving. As the engine of growth shifts from manufacturing to services further periods of volatility are certain. The Economist puts the risk of a hard landing at some point in the next five years at 40%. A hard landing is defined as a drop of 2 + percentage points in annual economic growth compared to the previous year.
Economic activity so far in 2016 has been driven by strong housing market activity and investments in SOE’s, but neither driver is expected to perform strongly in the second half of the year.
Top tier cities continue to boom while smaller cities are flat. Rising values in Shanghai and Beijing are driven by demand for investments, not demand for accommodation. This is not a new trend, but the trend has continued beyond what was expected.
Bank lending is increasing, as is the level of speculation and risk. Some analysts are expecting government intervention to calm the over-heated markets. In the meantime, this investment is driving property development growth in select cities.
The RMB is expected to weaken between now and 2020. There are interesting forces at play with new policies in place to prevent currency from flowing out of the country, and resourceful investors constantly seek loopholes. The government aims to maintain a stable currency, but the forces of gravity are pulling at the RMB.
2016 forecast RMB/USD 6.55
2017 forecast RMB/USD 6.76