China's Economy To Rebound Sooner, Stronger Than Expected - Nomura

on September 17 2012 11:27 AM
A labourer cleans the floor beside a China Railway High-speed (CRH) train preparing for the operation ceremony from Wuhan to Guangzhou in Wuhan, Hubei province, in this December 26, 2009
A labourer cleans the floor beside a China Railway High-speed (CRH) train preparing for the operation ceremony from Wuhan to Guangzhou in Wuhan, Hubei province, in this December 26, 2009. Reuters

For all the ongoing talk of a soft or hard landing for China, Nomura's Chief China Economist Zhiwei Zhang offers some very bullish thoughts on the world's second-largest economy.

Market sentiment for China's growth outlook has been overwhelmingly negative as the Shanghai stock market index hit a post-2009 low.

China's economic growth has slowed for six straight quarters and the Street has been busy revising down growth forecasts after virtually none of the "signs of recovery" have turned out to be real. The consensus forecast for 2012 gross domestic product, or GDP, has fallen to 7.7 percent from 8.1 percent three months ago.

On a quarterly basis, the consensus expects growth to slow from 7.6 percent in the second quarter to 7.5 percent in the third quarter, before recovering slightly to 7.7 percent in the last three months of this year.

However, Zhang disagrees with the consensus view and believes that "economic growth in China will rebound earlier, and stronger, than the market currently expects."

Zhang feels that investment is key to the growth outlook and highlights that when GDP growth slowed from 9.2 percent in 2011 to 7.8 percent in the first quarter of 2012, investment was the key driver of the slowdown.

On this note, Zhang indicates that his forecast is more bullish mainly because of his investment outlook. He expects fixed-asset investment growth to pick up to 21 percent year-over-year by December from 20.2 percent in August on year-to-date basis, while consensus expects FAI growth to slow to 19.5 percent.

He notes that local and central governments have sent clear signals over the past several months that they intend to increase infrastructure investment to promote growth and highlights quotes dating back to May 20 from Premier Wen Jiabao, President Hu Jintao and Vice Premier Li Keqiang to support his view.

Zhang believe Beijing has become much more proactive to ensure that growth will rebound after the important Communist Party leadership transition, which will likely take place in mid-October. Also, there is more urgency to act as the risk of failing to meet the 2012 GDP growth target has become real as the economy slowed further in July and August.

China's powerful economic planning body, the National Development and Reform Commission, recently announced approvals for several infrastructure projects, including 25 subways and 13 highways. Analysts estimate the total size of the investment at more than 1 trillion yuan ($158 billion), roughly a quarter of the total size of the massive stimulus package unleashed in response to the global financial crisis in 2008.

Although some economists argue that most of these plans were already part of the 12th Five Year Plan, and hence are not new, Zhang thinks otherwise.

First, Zhang notes that none of the subway projects are part of the national Five Year Plan. Some were mentioned in local Five Year Plans (for instance, Changzhou's Five Year Plan stated the aim of launching a subway project), but this does not necessarily mean that these projects will be implemented as they still require central government approval.

"Note that in 2011 only nine subway lines were approved," Zhang said. "The approval of 25 lines over three months is not something we should dismiss as a non-event."

More importantly, even if the proposed subways were already slated for construction over the next few years and the government merely decided to bring the schedule forward, the implication for the growth outlook in the next few quarters is non-trivial. "Therefore, we do not see this question as relevant if ultimately we want to determine what the subway lines mean for economic growth over the next 12 months," Zhang said.

Zhang expects the projects will be financed via "central government expenditure, local government financing via land sales and bonds, ministry of railway bonds, corporate market bonds, asset backed securities and trust and bank loans."

Elsewhere, the housing sector has started to recover much more robustly than market estimates had expected.

Total fixed-asset investment slowed from 24 percent in 2011 to 20.2 percent over the first eight months of 2012. Housing (residential and commercial) investment accounted for 60 percent of the slowdown.

While market consensus expects housing investment to remain weak and the housing cycle to continue its downtrend for the rest of this year, this view is inconsistent with the latest data.

Leading indicators in this sector picked up strongly in August. Land sales improved sharply and new housing starts growth also improved to 14 percent year-over-year in August from a 27 percent decline in July. Property sold improved to 2.2 percent year-over-year in the January-August period from -0.5 percent in the January-July period in value terms. All three indicators have performed well in the past to forecast housing investment. Hence, there is a good chance that housing investment will rebound in the coming months, which is earlier than the market expects.

Housing and infrastructure investments combined account for half of total fixed-asset investment, which in turn accounts for nearly half of GDP. If both improve in the fourth quarter, China will likely see a visible rebound in GDP growth to 8.8 percent.

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