Could rising Chinese debt ruffle some feathers in 2017?

Even as we mark the beginning of the year of the rooster we believe China’s rising debt burden could ruffle some economic feathers in 2017. The consensus opinion remains that the leaders of the centrally controlled economy will continue to manage to ‘pull the right levers’ to keep GDP ticking along. Under the surface though, China’s sovereign balance sheet continues to deteriorate at an alarming rate.

The rate of credit expansion in recent years in China exceeds that of Spain and Ireland in the run up to their bubble peak in 2008, as well as that of the US during its mortgage boom and the increase in indebtedness in Japan during the 1980s. And although the starting point is very different from these earlier examples, at US$32tn, banking assets in China are now twice those in the US, despite the economy being 40% smaller. Furthermore, the misallocation of capital that has occurred is evidenced by the fact that continued strong increases in the use of credit have had less and less impact on growth – total social financing rose 11% year-on-year to November in US-dollar terms, but nominal GDP (measured in US dollars) increased by just 2% year-on-year in the 12 months to the end of Q3. We believe the contribution to world growth that has come from China means the potential for a greater slowdown matters not just for the Asian region but to economies and markets globally.

For more insight into what the next 12 months might hold for investors, please visit the BNY Mellon Markets 2017 special report.

Iain Stewart – Newton, a BNY Mellon company

Even as we mark the beginning of the year of the rooster we believe China’s rising debt burden could ruffle some economic feathers in 2017. The consensus opinion remains that the leaders of the centrally controlled economy will continue to manage to ‘pull the right levers’ to keep GDP ticking along. Under the surface though, China’s sovereign balance sheet continues … read more

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How China’s year of the red fire monkey could impact markets in 2016

China’s influence on the global economy and financial markets has continued to be widespread in recent months. Its currency devaluation and stock market tumble last summer were cited as key reasons for the postponement of a US interest-rate increase in September; global energy and commodity producers have been enfeebled by its slowdown; and the country’s progress towards freer capital markets was exemplified by the inclusion of the renminbi in the International Monetary Fund’s basket of reserve currencies.

February sees the start of the Chinese year of the Red Fire Monkey – thought to herald great risks to business and the economy. During this New Year, China’s influence is likely to continue to be felt far beyond its shores, not least in terms of its approach to managing its currency. To Chinese industry, an elevated exchange rate, exacerbated until now by the setting of the renminbi against the (soaring) US dollar, has been highly challenging. For those who trade with the country, the prospect China will weaken its currency – a move for which Beijing’s decision to measure the renminbi against a conglomeration of other currencies appears to pave the way – is unsettling, given the negative implications it would have for the competitiveness of other nations.

Nick Clay – Newton, a BNY Mellon company

China’s influence on the global economy and financial markets has continued to be widespread in recent months. Its currency devaluation and stock market tumble last summer were cited as key reasons for the postponement of a US interest-rate increase in September; global energy and commodity producers have been enfeebled by its slowdown; and the country’s progress towards freer capital markets … read more

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Crossing the threshold

The Asian growth story is an enduring multi-decade shift that belies the recent short-term noise around Chinese stockmarket volatility and falling demand for commodities. Even taking into account a slowdown in growth, the populations of Asian countries are still increasing their levels of wealth faster than their Western peers. In China, meanwhile, the transition to a consumption-based economy continues apace – with news that for the first time ever the size of its middle class population exceeds that of the US.

This kind of development supports our view that investors would be well placed to focus on the long term trends and consider adding exposure to Asian economies. This is especially the case at current valuations where the debt of even profitable, blue chip companies enjoying strong government support is trading at attractive yields.

Sarah Percy-Dove – Standish, a BNY Mellon company

The Asian growth story is an enduring multi-decade shift that belies the recent short-term noise around Chinese stockmarket volatility and falling demand for commodities. Even taking into account a slowdown in growth, the populations of Asian countries are still increasing their levels of wealth faster than their Western peers. In China, meanwhile, the transition to a consumption-based economy continues apace … read more

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A new golden age of rail

Chinese authorities have significantly built out high-speed rail as part of the current five-year plan and have made no secret of wanting to be the world’s leaders in terms of track length and number of lines. Now they have announced a ‘one belt, one road’ policy, also known as the ‘silk road’

The ‘one belt, one road’ initiative is designed to connect – via rail and sea – China to Europe through India and Africa in one direction, and to the South Pacific in the other.1 China is looking for ways to boost its economy now that its growth is slowing, and one way to do that is to look outward. The businesses working in China’s rail sector have in many cases worked with Western companies and, through technological share, obtained intellectual property that puts them on par with these global leaders.

The UK’s High Speed 2 (HS2) would represent just a small fraction of the record-breaking lines being built and planned in China. Phase one is designed to run 192km between London Euston and the Midlands, with phase two potentially extending to the North-West and North-East of England and perhaps even beyond into Scotland. Yet at an estimated cost of at least £50bn the funding behind HS2 has created some controversy and public support is patchy at best.

Justin Sumner – The Boston Company Asset Management, a BNY Mellon company

1 JOC.com, ‘What is China’s ‘one belt one road’?’

Chinese authorities have significantly built out high-speed rail as part of the current five-year plan and have made no secret of wanting to be the world’s leaders in terms of track length and number of lines. Now they have announced a ‘one belt, one road’ policy, also known as the ‘silk road’ The ‘one belt, one road’ initiative is designed … read more

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The truth behind the China equity rally

Stock markets in China have performed strongly despite the weak fundamentals of the economy. Towards the end of March, the authorities loosened stock market restrictions and for the first time allowed mainland Chinese insurance companies and mutual funds to buy H-shares listed in Hong Kong.  The Hong Kong stock market rallied on the back of buy flows from mainland China and, in particular, investors sought dual-listed shares (shares listed on both the Hong Kong and Shanghai stock exchanges) some of which trade at a cheaper valuation in the Hong Kong market. 

Meanwhile, sharp moves in the Shanghai stock exchange also look unsustainable, although we believe speculative flows will remain for a while. Whereas in developed markets institutional investors usually make up roughly 80% of total and retail 20%, in China it is the opposite. The Shanghai stock exchange is very retail driven and newsflow driven and thus by nature volatility would be relatively high. In the shorter term, we see elevated risks in the Chinese system, and a lot of the measures put forth by the government are moving the country away from the path of rebalancing the economy and instead steering the country back towards the investment-driven model that prevailed for the past decade.

Amy Leung – Newton, a BNY Mellon company

Stock markets in China have performed strongly despite the weak fundamentals of the economy. Towards the end of March, the authorities loosened stock market restrictions and for the first time allowed mainland Chinese insurance companies and mutual funds to buy H-shares listed in Hong Kong.  The Hong Kong stock market rallied on the back of buy flows from mainland China … read more

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China: not deleveraging

China's debt reached 282% of GDP in 2014

We have been watching the build-up of debt in China for some time in line with our Debt Burden theme. Indeed, the pace and extent of the debt acceleration in China is behind our major concern for China’s growth outlook and our underweight position in the market. Current estimates of debt in China vary, but they are in the range of 250-280% of GDP. This is approaching levels seen in developed markets such as South Korea, the USA and Germany. With such a surge in credit one must question the quality of this lending, especially when much of it has essentially been dictated by the state rather than on a rigorous risk-adjusted basis. This stock of bad debt is the crux of the problem, and has the potential to derail growth in China. We are not convinced the banks’ reported non-performing loan figures reflect this reality, and we believe the market is too relaxed about the built up risks, assuming the central government can bail the system out. The other aspect of the huge growth in leverage in China is the extent of “shadow banking” i.e. non-formal lending. Some estimates suggest up to 30% of total debt is of this nature, which accentuates the systemic risks to the financial system in the event of a growth slowdown.

Caroline Keen, Newton – a BNY Mellon company

We have been watching the build-up of debt in China for some time in line with our Debt Burden theme. Indeed, the pace and extent of the debt acceleration in China is behind our major concern for China’s growth outlook and our underweight position in the market. Current estimates of debt in China vary, but they are in the range … read more

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Chinese FDI into Europe has doubled since 2013

Chinese foreign direct investment into Europe hit US$18bn in 2014, almost double 2013’s level. Over the past four years, the average spend in the region by Chinese investors has been US$12bn a year, suggesting a slowdown in Chinese growth has not dented that country’s appetite for international exposure.

Given the recent down-to-the-wire nature of negotiations between Greece and its eurozone creditors, it is not surprising that China has been cited as a possible financier-of-last-resort for Europe’s peripheries in the event of a euro breakup. In one such scenario, China could provide financial assistance in return for ownership in vital infrastructure such as ports and/or use Greece for geopolitical advantage. If that happens, Portugal and Spain might consider going down the same route, as the fear of being able to fund themselves dissipates.

As things stand, we believe by far the most likely outcome is for Greece to achieve an element of debt forgiveness without the need for a euro exit. Nonetheless, the potential China angle may serve to focus minds around the negotiating table in the coming weeks and months.

Nick Clay, Newton

Chinese foreign direct investment into Europe hit US$18bn in 2014, almost double 2013’s level. Over the past four years, the average spend in the region by Chinese investors has been US$12bn a year, suggesting a slowdown in Chinese growth has not dented that country’s appetite for international exposure. Given the recent down-to-the-wire nature of negotiations between Greece and its eurozone … read more

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China cements its place in construction history

China has overcapacity problems in many industries, including cement. The country has undergone an infrastructure binge since its post-financial crisis stimulus package in 2008, where capital investment occurred without due concern for the returns it would or would not generate. This explains the elevated cement consumption per capita in China compared to the peak levels seen elsewhere, as building for future demand was brought forward. As a result, from both the supply side and the demand side, we do not currently find this sector a compelling investment proposition in China and have no exposure to it.

Caroline Keen, Newton

China has overcapacity problems in many industries, including cement. The country has undergone an infrastructure binge since its post-financial crisis stimulus package in 2008, where capital investment occurred without due concern for the returns it would or would not generate. This explains the elevated cement consumption per capita in China compared to the peak levels seen elsewhere, as building for … read more

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Deflation: the spectre at the feast

China may be on the brink of becoming a deflationary influence on the world. In the wake of the global financial crisis China embarked on a credit-fuelled investment boom, the like of which the world has never seen. Total credit in the economy grew by some $11 trillion in the period of five years from 2009 (equivalent to the combined GDP of Germany, Japan and Canada), with much of this being financed by an unofficial shadow banking system which has very little rigour as to credit quality. .

Iain Stewart, Portfolio Manager, Newton

China may be on the brink of becoming a deflationary influence on the world. In the wake of the global financial crisis China embarked on a credit-fuelled investment boom, the like of which the world has never seen. Total credit in the economy grew by some $11 trillion in the period of five years from 2009 (equivalent to the combined … read more

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Mexico’s manufacturing might

Manufacturing wages (USD per hour)

Mexico versus China; the outsourcing battle is on. While Mexican wage inflation has been broadly flat over the past 10 years, China’s continues to rise – they are now direct rivals. Increasingly competitive as an outsourcing location, aided by its strong transport links to the US, global brands are flocking to the Central American giant. L’Oreal, Unilever, Nissan and Honda … read more

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