China has been struggling to achieve its 5% growth target in 2024. This week, Beijing announced a package of measures to try to stimulate consumption and investment to assist. Meanwhile, the oil price has mainly drifted lower. China, as the world’s leading manufacturer, is a major user of fossil fuels, sustaining demand for coal and oil in recent years.
The decision by the Peoples Bank of China to take 50 basis points off the Required Reserve Ratio was expected. This will allow banks to lend more money to people and businesses for any given amount of cash they hold in reserve. It cut mortgage rates by 0.5 percentage points (pp), the seven-day interest rate by 0.2pp to 1.5%, and reduced the minimum down payment on a property to 15%.
The central bank also injected money into the stock market by allowing securities and investment firms to borrow money to finance their positions. It followed this up with a cut in the medium-term lending facility rate from 2.3% to 2%. This represents a useful relaxation after a period of intense distress in the property market as it fought to discipline a wayward sector after an asset-price bubble.
The collapse of the property sector has been a substantial headwind against faster growth as China seeks to put a long Covid-19 lockdown behind it. The country is also battling with reduced export demand for some of its products, given slowdowns in richer countries and a trade war with bans and tariffs aimed against some Chinese sectors.
The purpose of the property relaxation is to allow more individuals to buy homes to take stock out of a distressed market. Lower mortgage rates leave people with more to spend on other things.
Intervention aims to back the ‘right’ investment
In June, Governor Pan Gongsheng of the Peoples Bank set out how it would provide policy support for faster growth as China fought deflationary forces. He explained how China is looking for high-quality growth, with the central bank undertaking some direct financing of technology and offering money to industry to transform its processes, applying more digital and robotic investment.
Mr Pan said he wanted cheaper and easier mortgages – but warned against the way some financial institutions had “expanded scale through undue and irrational competition”. Chinese communists blame too much free enterprise enthusiasm competing for the excesses they had allowed for the troubles in its property sector.
The central bank allocated 15% of its balance sheet to promote technology, green transition and micro business by direct lending. The financial institutions are being told to put more emphasis on reporting their income from lending rather than the quantity of loans to avoid encouraging them to write more loans regardless of the security and profitability of the business. He saw the exchange rate as a constraint on action, as China does not wish to devalue too much. Authorities also wish to avoid a banking bubble.
Small shift in monetary policy
Governor Pan stressed the need to balance growth with financial prudence after the excesses of the property boom. The central bank will still consider money growth as well as studying prices. China has been critical of Western central banks for ignoring money growth and only looking at price changes and expectations, but China itself is now diluting its approach by being more qualitative about money growth.
An intention to inject money into the system by bond activities was also announced, but the central bank denied the move was quantitative easing, something China has in the past criticised. He sees the actions as “a channel for base money injections and a tool for liquidity management”. A crucial aim is currency stability.
Governor Pan is keeping the general idea that money growth should be similar to growth in gross domestic product. Overall, we have been in line with other commentators in the expectation of further relaxations in money and credit. We also expect further action will be taken all the time inflation stays low and as the country seeks to move on from the property crash. It is likely the recent package of changes will need further measures to lift confidence and consumption.
President Xi and the emerging world
President Xi Jinping has confined his published remarks to strengthening China’s links with African countries and building South-South co-operation as a competitor to the West and advanced countries. He seeks a deep reform of the global financial architecture to allocate more to the emerging world. He wants both digital transformation and green transition with plenty of technology transfer.
China is pleased 30% of overseas trade is now in renminbi and looks to build up its money transfer and banking system as it constructs closer partnerships with the emerging world. He keeps his alliances with North Korea, Russia and Iran but is careful not to associate China directly with their most provocative actions. He talks about the need for peace and diplomacy, whilst arming China at pace.
China has not responded too aggressively to the high tariffs the US has placed on its electric cars or to the bans the US has imposed on quantum computing parts, semiconductor manufacturing equipment and next generation chips. President Xi recognises the need for China to build its own capacity for innovation, and doubtless wishes to keep channels open such as students in Western universities and business joint ventures as ways of gaining access to more Western technology. The danger of his strategy towards the private sector is that he could stifle too much entrepreneurship in China and direct too much to state enterprises, allowing the country to slip further behind the US.
Direct lending by the central bank to technology-oriented businesses is part of a plan to allow some private-sector freedom. China has positioned well to take advantage of the green transition, only to find itself with overcapacity in electric cars with an advanced world resorting to protectionism to keep Chinese product out.
The West needs Chinese products and China needs Western markets, so there are limits to how bruising the trade war will become. Europe is more accommodating to China than the US, but Mr Trump will be more hawkish than President Biden if elected.
Trade and oil
The Biden onshoring movement following the Trump efforts to rebalance trade have led to some diminution of US/China trade in specialist areas. China continues, however, to run a big surplus in trade with the US and remains the principal manufacturing supplier of the advanced countries.
China accounts for more than 30% of world manufacturing output. It has a dominant position in solar and wind equipment, as well as in electric vehicles and large batteries. It is strong in basic industries such as steel where it makes more than half the world total. As China’s economy slows, so demand growth for oil drops off.
The International Energy Agency’s (IEA’s) September oil market report stresses that weaker Chinese demand this year has helped lead to lower oil prices. Since the review, there has been a modest rally in oil prices based on the Chinese stimulus and on Israel’s decision to widen the Middle Eastern war to Lebanon.
The IEA argues that the current growth in supply of oil from non Opec/Russian sources this year and next exceeds likely demand growth. This leaves Opec+ needing to keep some production locked down to avoid weakening the market price further. Saudi Arabia, the UAE and Kuwait all need to operate considerably below capacity to sustain the market. Venezuela continues to produce well below what it could do if it had better government. The civil war in Libya has kept Libyan production down.
Meanwhile, the US under President Biden has continued to expand its output, despite Democrat concerns about global warming. In June 2024, US output – at 13.2 million barrels a day (bpd) – was 2 million bpd higher than the end of 2020 under President Trump, although Covid-19 was a factor in that outcome. Canada, at 5 million bpd and Brazil at more than 4 million bpd are significant producers expanding their output.
There are signals that authorities now also want a more active property market.
Further disruption and war in the Gulf could disrupt the oil market further and cause prices to rise. A stronger recovery in China, a more-modest-than-expected slowdown in the US and some recovery in Europe could boost demand a bit and firm prices.
Otherwise, with Europe weak and decarbonising, the US slowing and China underperforming there is sufficient oil around to keep prices under control. That is good for inflation and will help central banks get their rates down. The tariff war between China and the West is unhelpful to trade but is kept under control so far by both sides given their mutual dependence.
The oil outlook does not, on our base case, impede the progress of positive equity markets sustained by interest-rate falls. Meanwhile, the latest package from China does show a renewed wish to see faster growth and a higher stock market. The package itself will help, and we should expect more measures to stimulate if demand and confidence do not accelerate enough.
There are signals that authorities now also want a more active property market after a long period of teaching speculators an expensive lesson. Investing in China entails political risk with Western criticisms of the way business is done and some employees are treated and the possibility of Chinese retaliation for western tariffs and criticisms.
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