Greece and the Eurozone are so last month. What’s really occupying minds at the moment is China and specifically the possibility of a hard landing.
To wit, we bring you a Q&A between Qu Hongbin, HSBC’s chief China economist, and Mr Lu Zhongyuan, Deputy Director of the Development and Research Center under the State Council. It’s circulating the City of London on Monday morning.
Zhongyuan is China’s top government adviser according to HSBC and well placed to comment on the risk of a hard landing, inflation and the impact of the Eurozone debt crisis.
(selected highlights)
1 – Economic growth in China is moderating amid tightening policy. The intensifying EU sovereign debt crisis caused renewed concerns of the risk of a hard landing in China. What’s your assessment of the risk of a hard landing?
China’s economic growth is moderating. It is the result of our policy tightening efforts since late last year. A relatively lower growth rate is helpful to control the increase in the overall price level, facilitating economic restructuring, and reducing energy intensity and emissions, in line with the intentions of macroeconomic control. In the first three quarters, China’s economic growth rate topped 9%. It is still in a reasonable range that is determined by growth potential. Full year growth will exceed 9%, which will be the highest among the world’s major economies and will play an important role in stimulating world economic activity and preventing the world economy from slipping into another recession.
2. China’s inflation outlook
It is well-known that we set three major targets for our macro-control policies at the beginning of this year, i.e. reining in price inflation, maintaining steady growth and restructuring the economy. We have already seen that inflation stopped surging as a result of previous monetary tightening. However, since price inflation is still hovering at a relatively high level, we need to keep the current policy stance to ensure stable prices in the coming months. As long as there is uncertainty on future development of food price inflation, the main driving force of China’s headline inflation during this cycle, we need to keep a close eye on it.
We identified three categories of product prices that are more vulnerable to price fluctuations: 1) Agricultural products with slower labour productivity growth, for example, pork and vegetables; 2) Non-tradable products such as real estate; and 3) Resources products. Monetary tightening is necessary but not enough for us to combat cost push and imported inflation at the same time. This calls for fiscal policy and structural reform to play a more important role. In addition, we need to encourage market competition in specific sectors to ensure price stability.
3. It has been reported that small and medium sized enterprises (SMEs) are experiencing closures. Meanwhile, private entrepreneurs in Wenzhou and Taizhou (both are industrial cities in Zhejiang province) have fled because they are facing a capital-strand break. Some scholars have called for loosening of monetary policy; what’s your view?
The Development and Research Center under the State Council has conducted field work investigating financing difficulties for SMEs in several regions and found no closures. But financing difficulties are very prominent. In most cases, financing difficulties happen when those SMEs try to engage in capital operation and real estate investment that is outside of their core businesses. For industrial SMEs, rising costs is the top concern, followed by financing difficulties. The phenomenon that appeared in Wenzhou is indeed worthy of our attention. In my view, rather than blame the tightening of monetary policy, the key issue is that China’s financial system, capital markets and banking system can not meet the needs of the private economy and small and micro enterprises. We need to speed up reforms in the financial sector to encourage financial innovations as soon as possible to meet the small, micro-enterprises’ development and financing needs.
4- There are some early signs of a double dip in developed markets, while emerging markets are still facing headwinds from high inflation. All this has created new external uncertainties for China’s future development. What’s the biggest challenge for China?
My expectation is that the impact of renewed weakness in the EU and the US could be limited this year as we are entering the fourth quarter. Yes, a sluggish recovery or economic stagnation could bring us uncertainties. The biggest concern comes from whether or not the Fed will adopt another round of quantitative easing. We need to strengthen the relevance and flexibility of China’s macro policy to cope with volatility amid a changing international economic environment.
There we go. China is more worried about another blast of QE than a hard landing.
Feeling reassured?
Well, no, we aren’t, because to misquote Mandy Rice-Davies – Lu Zhongyuan would say that, wouldn’t he? He’s highly connected to government. The Wenzhou SME “phenomenon… worthy of our attention” involved several businessmen literally running away from debts accrued at shadow lenders. There’s a space for these lenders created by bigger banks being made to choke back credit as part of fighting inflation and the jump in money supply. So it’s not actually irrelevant to tight monetary policy at all.
In fact, if you do want to bet against a hard landing in China, you should hope that Lu Zhongyuan and co are pulling the wool over everyone’s eyes and are planning to turn the credit taps on in the near future.
Related links:
A guide to China CDS – FT Alphaville
China squeeze – Macro Man
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