China Slowdown And Financial Markets

The Shanghai Stock Exchange was the worst performing major stock market in 2018, with the benchmark Shanghai Composite Index falling 25% over the course of the year. Concerns about a slowing economy deepened in the second half as current indicators surprised on the downside. While many economists cautioned that a major slowdown in China was not likely, much less a recession, investor, domestic consumer, and business sentiment have all clearly worsened.

As discussed below, our base-case expectation is that the slowdown will prove to be modest, with the pace of economic activity beginning to pick up in the second quarter of 2019. Risks to this outlook, however, are mainly on the downside.

The Chinese economy clearly did slow during the second half of 2018. GDP growth eased to a 6.5% annual rate in Q3, the slowest growth since early 2009, and looks likely to have moderated further to a 6.3% pace in Q4. Estimated economic growth for the year is 6.6%, moderately slower than the 6.9% rate for 2017, but still relatively robust.

Data releases in the fourth quarter intensified concerns about the likely magnitude and duration of the slowdown. The Caixin China General Manufacturing Index for December weakened in December to 49.7, its lowest level since May 2017. Note that 50 is the reading that separates expansion from contraction. New orders fell marginally, and domestic demand weakened. More positive data was reported several days later but got limited attention. The Caixin China General Services PMI for December registered a solid upturn in services activity, achieving a six-month high. This resulted in a five-month high in overall business activity, combing manufacturing and services, in December. Also ending the year on a positive but still subdued note, business sentiment improved in both the manufacturing and services sectors.

The leading cause of China’s economic slowdown appears to be a serious liquidity crunch that falls most heavily on small, privately owned companies. These firms contribute some 60% of GDP growth and 90% of new jobs. Government policies unintentionally led to these liquidity problems. Back in mid-2016, China’s economic policy switched from stimulus to restraint in response to concerns about a rapid buildup of unregulated shadow-bank lending, often too risky borrowers. Restrictions were placed on shadow banking with the laudable objective of enhancing financial stability. These measures tended to cause funding problems for smaller firms and also for infrastructure projects, while state-owned enterprises continued to have preferential access to bank loans.

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Disclaimer: The preceding was provided by Cumberland Advisors, Home Office: One Sarasota Tower, 2 N. Tamiami Trail, Suite 303, Sarasota, FL 34236; New Jersey Office: 614 Landis Ave, Vineland, NJ ...

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Gary Anderson 9 months ago Contributor's comment

Taiwan is where the most sophisticated chip technology is stored. China will get that technology one way or another. Hopefully, it is peacefully.