Upward Supply & Demand Trend in a Cyclically Downward Time
Domestic supply and demand warmed up in November overall, making it more likely that the whole year growth rate will be above 6%. On the supply side, as the beginning-of-season effect wore off, the industrial manufacturing sector recovered as expected, benefiting from inventory replenishment in the automobile industry and expectations of infrastructure expansion. Microdata showed, however, that policy adjustment played an important role in industrial output volume’s shifting between different months, while the demand was still weak.
Fixed assets investment within the month and domestic consumer market performance further confirmed the weak demand. Although November fixed asset investment growth rate recovered overall, it was mainly due to infrastructure and real estate development, the former of which had limited space for rebounding, while the latter is clearly showing a downward trend. In addition, the 11-11 online sales event pushed up the growth in consumer discretionary sector; but once inflation was adjusted for, domestic demand was consistently weak. Online consumption growth is a squeeze on offline sales. Overall, the effect is not encouraging. Export and import volumes overall saw a decline in November, but benefited from the reversal of import growth from negative to positive, showing a clear recovering trend.
Correspondingly, the growth of AFRE(Aggregate Financing to the Real Economy) in November realized a year-on-year increase. As one of the main drivers, Bank’s loans were majorly affected by targeted RRR cuts, MLF, the reverse repurchase rates and LPR interest rate cuts, and political guidance to banks for supporting real economy. However AFRE structure change indicated that, majority of the long-term lending money has flowed to local government-backed investment units, instead of SMEs. The demand of total enterprises’ financing remains weak. In terms of exchange rates, the spot exchange rate of the offshore RMB against the US dollar stabilized at "7" in November, and in December, affected by trade negotiations, the trend kept optimistic.
As we look to 2020, slowing of domestic economic growth has become a consensus in the markets, but there is no need to despair. During this turning point of a year, counter-cyclical adjustments will continue to play its role. We expect the policies will be centered on: 1) ensuring smooth growth of infrastructure investment; 2) weakening regulatory pressure of real estate and financing, paving the way for a smooth landing of real estate investments; 3) stabilizing manufacturing investments through state-owned capital and policy guidance; 4) upgrading consumption through the upgrade of automobiles, revamping of urban infrastructure, and stimulating peripheral consumption around finished real estate. Tier-3 and below urban markets will be the focus to tap domestic demand potential; 5) careful combination of fiscal and monetary policies to boost consumption, employment, local economies, and regional developments. The goal of the above 5 measures is to ensure the doubling of economic and national income from 2010, which means 2020 economic growth rate will need to be above 5.4%. as to details:
On the supply side, although tariffs reversed their rising trend which would help improve foreign demand growth, they will not change the declining domestic and foreign fundamentals. Downward pressure will still persist. It is still too early to declare the beginning of a new inventory cycle. As long as there is no substantive improvement in demand, neither the counter cyclical adjustments nor the supply-side restrictions will be sustainable. Infrastructure investment can bring some demand to the manufacturing sector in 2020, but the sector is still at the stage between destocking and restocking, where there is no stability to speak of. We maintain our forecast of 5-5.5% growth in manufacturing.
On the investment end, manufacturing investment might temporarily recover because of industrial policy, tax reduction, as well as the low 2019 basis, but as the sector’s declining profits mute investment demand, overall growth will linger at a low level. Real estate investment might be resilient to a degree because of the slowing land sales and trailing off of construction spending, and the sector in total is a mainstay of the economy, but its decline is inevitable. Although infrastructure investment is a major tool for counter-cyclical adjustments, it is facing its own issues. Different regional governments, bound by lack of funding, carry out the adjustment measures to various degrees, and funding needs from the “new infrastructure” are declining. Based on the above, infrastructure investment is not expected to post a significant bounce next year, but will rather hover at a low growth level. All told, fixed assets investment growth could grow at a slightly higher rate than this year. The overall annual growth rate is expected to be between 5.4-5.8%.
On the demand side, despite the domestic stimuli coming from new business models, new tech applications and fintech, slow growth in real income of the residents and expected wealth from stock markets and real estate are the most difficult hindrances. Real consumption growth in 2020 will depend on these three factors: employment and labor market, CPI squeeze, and policies for stable consumption growth. We expect on-shore whole year consumption growth rate for 2020 to be between 7.5-8%. Off shore, as the Phase 1 Agreement has been reached between US and China, export and import trade in 2020 is expected to recover from 2019, and global trade uncertainties are expected to ease significantly. Export in 2020 is expected to grow by 3-4%, while import growth might be even higher. As a result, the recessionary surplus will narrow. Contribution to GDP from 2020 net export is expected to be smaller than that of 2019.
On the financing side, the monetary policy of 2020 will keep performing “flexible and appropriate” to ensure liquidity being reasonable and adequate. We expect the AFRE will follow the real economic growth rate, with an annual increase of about 5.8-6%. The financing cost for SME will be further cut. In terms of exchange rates, there is still room for RMB to appreciate against the USD. Following the exchange mechanism reform, the market began to gradually reflect the real supply-demand relationship of the market and be avoid of misleading of the “7” bail-out from government. Relatively, the pressure on China's foreign exchange reserves will reduce accordingly and be stable in next year.
On the policy side, the focus of finance in 2020 will be different. The deleveraging will pause for the time being, while regulatory pressure on real estate control will ease with the goal of “stable land price, stable housing price, stable expectations”. In addition, further reform policies will be announced. 2020 systematic economic reform is expected to focus on: 1) optimization of state-owned capital outlay; 2) fiscal and tax system reform; 3) capital markets, including further Second-Board and NEEQ reforms; 4) further opening up to foreign enterprises. As the reform measures fall in place, dividends from system optimization could boost the economy.
Based on above analysis, we expect 2020 GDP growth rate to be around 5.8%.