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US economy

A trade war truce won't save China's economy


For the first time since President Trump launched the first salvo of his trade war with China’s President Xi Jinping, the two leaders are set to meet. This time, at the G20 summit in balmy Buenos Aires.

Following recent posturing by White House economic adviser Larry Kudlow and renewed threats from President Trump of more tariffs, the prospect of a grand resolution between the two countries appears chancy at best. What’s more likely this weekend is that President Trump and Xi will emerge from their scheduled 90-minute one-on-one meeting, which is then followed by dinner, with some kind of blueprint in hand for future talks.

A ceasefire (or at least the indication that one could come) would no doubt buoy global markets and fortify Chinese equities and its currency, the renminbi. But whatever gains Chinese assets garner are likely to be shortlived. Undercutting a more sustained rally and the shoring up of the country’s slowing economy is the persistent weakening of credit growth in recent months.

Despite a kitchen sink of stimulus this year, which has included four slashes to banks’ reserve requirements, tax cuts and increased construction spending, lending remains tight and money supply now sits near record lows.

The most recent reading of total social financing (TSF), which is a broad measure of Chinese credit, fell again in October. Here’s a chart from BCA Research showing that the year-over-year growth rate for adjusted TSF continues to slide:

With Chinese banks lending less and the country’s money supply, as measured by M1, contracting, GDP growth has unsurprisingly taken a hit. In the third quarter, the country’s GDP slipped to 6.5 per cent, the slowest quarterly growth figure since the global financial crisis a decade ago. As M1 is correlated with China’s nominal GDP, per Alan Ruskin of Deutsche Bank in the below chart, the decline should surprise few:

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On a more granular level, China’s economic slowdown appears even more pronounced.

Despite tariff cuts for machinery, electrical equipment and other products from November 1, industrial profits have stalled. Just 13 out of 41 sectors saw profits improve month-to-month in October, leading ING’s Iris Pang to call the squeeze among Chinese manufacturers “severe.”

November’s manufacturing Purchasing Managers’ Index (PMI) underscores this point. Crossing overnight, China’s official PMI fell to 50, from its previous level of 50.2. A reading below 50 indicates that an economy is contracting. The last time China saw a no-growth headline figure was in July 2016:

For Mark Williams at Capital Economics, the largest headwind for this sector remains slower credit growth. This, he says, will weigh on activity through next year.

Ultimately, China’s economic fate hinges on its ability to fix its domestic imbalances. With debt levels soaring — from 140 per cent of GDP in 2008 to more than 260 per cent now — Chinese officials must continue to walk the tightrope between shoring up growth and unwinding what some see as a credit bubble, one which threatens to unleash destabilising forces on the country’s financial system.

That doesn’t mean that a trade war truce will be inconsequential though.

While at first glance China’s exports to the US appear to have held up quite well, in the face of the tariffs, export figures for products on the initial $50bn list have weakened quite a bit. Other goods will face similar pressure in due time. The lag comes from companies front-running their orders ahead of the planned step-up in tariffs from 10 per cent to 25 per cent. That increase is scheduled for January unless negotiations prevail.

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The Trump administration can certainly inflict further damage if it chooses to do so. In fact, it may have already planted the seeds for another round of escalation. Last week, the Office of the US Trade Representative published a report on China’s intellectual property practices. Here’s a taste of what’s inside:

China fundamentally has not altered its acts, policies, and practices related to technology transfer, intellectual property, and innovation, and indeed appears to have taken further unreasonable actions in recent months.

The USTR concluded with the following warning: “USTR intends to continue its efforts to monitor any new developments and actions in this area.”

That sounds more like a warning shot than the makings of détente.

Related Links:
White House casts doubt on G20 deal to resolve China trade war — FT
The spectre of seven — FT Alphaville
Over in China, a debt boom mapped
— FT Alphaville


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