China’s economy slows unexpectedly as Covid and housing issues mount

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Weak industrial production prompted China’s central bank to unexpectedly cut key interest rates.

Photograph by AFP/Getty Images

China’s economic recovery slowed even more than expected in July as Covid restrictions and a crumbling property market compound further woes.

Almost all key economic indicators were below economists’ forecasts, published data Monday by the Chinese National Bureau of Statistics (NBS).

The weak numbers prompted China’s central bank to unexpectedly cut key interest rates and drain money from the financial system on Monday morning.

The People’s Bank of China announced it was lowering the rate on 400 billion yuan ($59 billion) of one-year medium-term loans by 10 basis points to 2.75% from 2.85%, in the hope of stimulating demand for credit. A poll of more than 30 experts had predicted the rate would remain unchanged.

Indeed, the most shocking data on Monday was retail sales. The economic consensus was calling for a robust rise of at least 5%, but growth in the sector slowed to 2.7% year-on-year from 3.1% last month.

Lowering rates won’t make a difference, some said.

“If firms were eager to increase production, but were unable to do so because the cost of capital was too high, a rate cut would almost certainly lead to an expansion of investment and production” , said Michael Pettis, professor of finance at Peking University.

“But does anyone think that is the case? Businesses and households appear to be reducing their borrowing due to concerns about economic weakness. The problem, in other words, is the lack of domestic demand, not expensive capital,” he told Barron’s.

Industrial production also remained subdued, at 3.8% against forecasts of nearly 5%. As Chinese exports remain relatively strong, this means that most of this industrial production has gone overseas instead of being consumed domestically – another sign of weak demand and a thorn in the side of political decision-makers whose long-term objective has been to move the economy towards domestic consumption.

“The July rebound story turned out to be a complete myth, as China Beige Book data showed in real time,” Shehzad Qazi, managing director of China Beige Book, told Barron’s. “All major sectors are struggling and with credit supply and demand falling, the prospects for a significant rebound in the second half of 2022 appear cloudy.”

House prices also fell slightly from June. Out of 70 major cities surveyed, prices for new properties fell in 40 of those cities, down from 38 in June. For second-hand homes in these areas, 51 cities saw declines, down from 48 last month.

Real estate is a huge component of the Chinese economy, accounting for around 30% of GDP. As there are few alternative outlets for citizens, real estate remains a favored area, so price declines hurt investors’ returns.

Further away,

JPMorgan Chase

wrote on Sunday that Chinese developers could expect a 30% decline in first-half profits year over year, which will likely exacerbate the impact of nearly $100 billion having been wiped from stocks Chinese real estate and dollar bonds so far this year. This is on top of increasing developer defaults and residents refusing to pay mortgages on unfinished units.

The closest measure to a positive was urban unemployment, which fell to 5.4% from 5.5% the previous month. However, young Chinese – between the ages of 16 and 24 – have hardly been encouraged, where the rate is close to 20%, meaning that one in five young Chinese cannot find a job.

The outlook for August does not look good. This month there has been an almost unprecedented series of Covid outbreaks in 10 Chinese regions, many of which are in tourist or manufacturing hubs. Despite the specter of a nationwide outbreak of the current, highly contagious strain of Covid, President Xi Jinping has said the country will not back down from its strict zero-Covid policy under any circumstances, regardless of the economic consequences.

The Chinese government and media put a positive spin on the data, with NBS spokesperson Fu Linghui publicly saying, “Facing a more complex and severe international environment and the unfavorable situation of frequent national epidemics, the national economy continued to recover”.

Despite the data, continental markets shrugged, with major indexes closing roughly flat.

Finally, President Nancy Pelosi’s visit to Taiwan and the backlash she provoked in China helped keep investors nervous. After last week’s unprecedented aggressive military exercises by the People’s Liberation Army, Beijing said Sunday’s separate and unannounced visit by lower members of the US Congress would likely lead to renewed bombardments, airspace incursions and offensive naval exercises against Taiwan.

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