China: Government to leverage itself - Nomura

Research Team at Nomura expects 2017 and 2018 to experience a shallower slowdown path as the government leverages up to boost infrastructure investment in order to achieve its growth targets.

Key Quotes

“In 2017, we expect reported GDP growth to moderate to 6.5% from an estimated 6.7% in 2016, CPI inflation to rise to 2.4% from an estimated 1.9%, and PPI to rise to 1.0% from an estimated -1.6%. As a result, nominal GDP growth is expected to rise further to 9.6% from an estimated 8.4% in 2016, mainly driven by higher general price levels.” 

“The soft landing in economic growth and mildly higher inflation in 2017 will be the result of a fiscal stimulus and lagged effect of RMB depreciation this year, in our view. We expect domestic demand from the private sector to remain lacklustre in 2017, with the property market cooling. To boost infrastructure investment, we believe the government will be forced to leverage up. Fiscal expansion will be implemented through: 1) relatively large budget deficits, estimated at 4% of GDP; 2) more quasi-fiscal supports via policy bank financing and public-private partnerships (PPP) to finance infrastructure projects; and 3) greater local government bond issuance. Export growth is likely to pick up, supported by a lower RMB real effective exchange rate (REER). The recovery of PPI in 2017 will also be helped by imported inflation due to a weaker RMB.”

“We expect monetary policy to remain largely neutral in 2017, with just one reserve requirement ratio (RRR) cut but no policy rate cut in our forecast. Compared to our previous forecast of two RRR cuts and one rate cut in 2017, we have pared back our expected intensity of monetary easing. Our revision was based on acknowledging the delicate task facing the People’s Bank of China (PBoC) in striking a balance between the growth target, inflation objective and financial stability. Facing continued capital outflows, a soft landing, rising inflation and still-high home prices in top-tier cities, the PBoC will need to adopt under-the-radar policy easing measures, in our view. However, one RRR cut does seem necessary to maintain adequate liquidity conditions as risk premia may well return given the general uncertainty in the global economy and financial markets.” 

“We now expect China’s economic growth downtrend over the next two years to be shallower than we had previously thought. We now forecast GDP growth at 6.2% for 2018, compared with our previous forecast of 5.5%. The long-term trend of China’s economy – slowing while rebalancing from being investment-led to more consumption led – will remain intact. The downtrend continues to be driven by endogenous economic forces such as China’s demographic dynamics and decreasing capital returns. However, we have realised that the government is likely to prioritise “stabilising economic growth” over “structural reform” in its policy agenda when GDP growth comes close to the lower bound of its target range (6.5-7.0%). We believe that the government still has enough ammunition to stimulate investment growth, although such measures will lead to a poorer quality of growth.”