If your bullish thesis to buy stocks in recent months has been anchored by the expectation of aggressive monetary easing by China reinforcing the narrative that “bad news is good news” for the market, you may consider selling.
On April 19th, China’s Politburo held a regular meeting on economic affairs, and following last week’s blowout Chinese economic data and recent explosion in new loan and total social financing creation, the meeting statement emphasized that “economic performance year to date has been better than expected, market sentiment has shown visible improvement, key economic indicators are within the comfort zone, and the economy is broadly stable.”
In short, as Goldman writes in a Sunday research note, the “politburo meeting signaled a less dovish policy stance.”
Digging into the details of what may be one of the most important documents for the near-term outlook of the global economy – where China has clearly emerged as the marginal growth, and contraction, setter – the statement recognized that downward pressures on the economy exist but these pressures are more structural than cyclical, and the government should enhance economic and social stability by structural reform and further opening up of the economy. Incidentally, to appreciate just how critical the role China plays in creating/exporting inflation/deflation around the world, what Chinese importers will pay for their goods and how the yuan plays a role in everything is this chart from Morgan Stanley showing that “China remains at the center of the world for global economics”, as the head of research at Pepperstone noted…
… while this chart from TS Lombard shows once again the only key variable for the global economy is the Chinese credit impulse, something we have discussed for years.
Back to the Politburo statement which found that proactive fiscal policy should improve effectiveness and efficiency, “while prudent monetary policy should be appropriate in terms of looseness and tightness.” A notable change from the October, December and February meetings, is that there was no mention of the goal of maintaining “6 stabilizations” (on employment, trade, financial markets, investment, foreign capital, and expectations). This suggests that Beijing is now less worried about weakness in these areas, and the likelihood of aggressive easing has sharply declined.
Here is a recap of the three key highlights announced in the meeting, courtesy of Morgan Stanley:
- Policy-makers gaining confidence in growth outlook … The quarterly Politburo meeting on Friday, April 19, concluded that 1Q growth was largely stable and better than expected on the back of “appropriate countercyclical efforts”, with growth remaining within a reasonable range and market confidence improving significantly. Reflecting growing optimism, the meeting statement removed from the policy objective such wording as “six stabilizations” (stabilization in employment, finance, trade, foreign investment, investment,and expectations).
- … will maintain pro-growth stance with meaningful fiscal stimulus and moderate monetary easing… While acknowledging growth improvement in 1Q, policymakers remain cautious in light of still rising external pressures and downward pressures on growth owing to both cyclical and structural factors. They pledged to “step up with proactive fiscal policy” while keeping monetary policy “not too tight or too loose”.
- …while staying watchful of potential risks: Both structural deleveraging and housing policies, which were not discussed in the previous two meetings, were mentioned again. The meeting also included a pledge to adopt supply-side structural reforms to stabilize domestic demand.
The meeting also reiterated the goal of making financing easier and cheaper for private enterprises and SMEs. This is consistent with the recent State Council meeting which stated that the central bank should step up the use of tools such as relending to achieve this goal. But the recent rise in interbank rate indicates monetary policy has been turning less supportive. As Goldman notes, the policies aimed at achieving this goal can be viewed as structural and can co-exist with a less dovish overall policy stance. An example would be overall TSF supply falls but the share given to private enterprises and SMEs rises.
Also of note is that regarding the property market there was no mention of property prices. Typically the statement would mention preventing a rise or overly rapid rise in property prices. Instead, the statement just reiterated the policy of requesting that municipal governments manage the local markets to prevent speculation, and re-introduced the line on homes being for living but not for speculation. Some may see this as a tentative green light from Beijing to boost real-estate prices.
The statement also said that the government should use high level opening up to proceed with facilitating deep structural reforms. Foreign capital entry restrictions should be relaxed and foreign enterprises should be treated the same way as domestic enterprises. Progress on this could be meaningful, but only if and when a US-China economic deal is finalized.
The statement also highlighted there has been an increase in work safety related accidents. The government should learn from the lessons and prevent them from happening. This is a new focus of the government which will likely lead to a negative supply shock and push up upstream prices as reflected by PPI.
Also worth noting is the return of China’s stated (if not actual) intention to reduce debt: the statement mentioned the term “structural deleveraging” which first appeared this time last year but has been absent in policy statements since then. This suggests that the massive credit creation spree of the first quarter is now over for the foreseeable future.
There was also no mention of the need to boost consumption. In recent days there has been speculation that the government may roll out a consumption stimulus package boosting auto and household appliance consumption. Goldman does not believe this is likely given the state of the economy and financial market.
Overall, Goldman writes that “the tone of the meeting statement was mildly less dovish than before”, which is consistent with the bank’s expectations following the recent release of March data.
As Goldman cautions, the leadership might have intentionally sent a warning shot to the market, which has become visibly more optimistic about the outlook of the economy in recent months:
As much as they fear a weak economy and market, they are also concerned about potential bubbles, especially in the equity market. Given the performance of the market in recent months, the risks are tilted towards the upside. The current leadership is particularly sensitive to these risks because of the experience of a boom and bust in 2015, which is not that far back.
To conclude, Goldman expects the government to “take the foot off the accelerator” mildly but not to “step hard on the brake” because of the risk of a double dip in the economy and market, especially because of the 70th year anniversary of the founding of the PRC (which will be on October 1st and there will be a major celebration). As the state of the economy has been changing quickly in recent months, it should be expected that not all policymakers will have the same view about what to do going forward. The bottom line: this meeting provides a useful anchor, without which a further loosening of policy may lead to overheating as growth has become visibly stronger and inflationary pressures are building up already, not just food (read pig) prices.