China Watch

China Watch – July Trade And CPI Disappoint, Growth To Ease In 2H As Government Tightens

Typography

China's trade and inflation data surprised to the downside in July, likely drive by the government's targeted tightening monetary policy. GDP growth is expected to slow in second half of the year. Yet, given the strong readings in the first half, with the economy expanding +6.9% in both the first and second quarters, GDP growth should be able to meet government's target of “around +6.5%”. We believe the government would continue its tightening monetary policy in order to prevent and resolve systematic risks, and to curb excessive strength in property prices. Meanwhile, as ultra accommodative monetary policies across major central banks are coming to an end, with the Fed and BOC raising interest rates, while ECB will begin discussing reduction of asset purchases, it would be detrimental to the renminbi if the central bank pledges to maintain monetary easing. This would exacerbate capital outflow from China.

Inflation

China's headline CPI surprisingly slipped to +1.4% y/y in July, from +1.5% a month ago. The market had anticipated another +1.5% growth for the month. The disappointment was mainly brought by the -1.1% annual fall in food prices. Looking into the details of food prices, the biggest component of Chinese inflation, fresh vegetable prices, jumping the most in the food basket, gained +9.1% y/y, while pork prices slumped -5.5% for the month. Of non-food inflation, the biggest contributor of headline inflation, the medical and health care price component jumped +5.5% y/y in July. Core CPI stayed at +1.5% for the first seven months of the year, well below the upper bound of the government's target (+3%). Separately, PPI inflation stayed unchanged at +5.5% in July, compared with consensus of a rise to +5.6%.

Trade data

China's trade surplus widened to US$46.74B in July. Exports rose +7.2% and imports were up +11%, compared with +11.3% and +17.2%, respectively, in June. The slowdown in exports growth was already predicted in government's PMI report due on July 30. The manufacturing PMI eased to 51.4 in July from 51.7 a month ago. While the reading also missed consensus of 51.6, it remained the second highest July PMI since 2010. The biggest drop of the components came from new export orders index which slipped -1.1 points to 50.9. The widening gap between new orders index and new export orders signaled that the near-term driver has to be relied on domestic demand. The slowdown in imports growth in the trade report was probably driven by temporary factors such as very hot weather and slower progress in construction and production.

Meanwhile, China's trade surplus with the US narrowed mildly to U$$25.2B from US$25.4B in June. This was probably due to the recent strength of renminbi against US dollar. The renminbifixing rose +1.2% and +0.7% against US dollar in June and July, respectively. This probably affected China's exports to the US.

The broad-based USD weakness over the past months has sent renminbi to a 9-month high. Currently at 6.7075, the USDCNY fixing today has dropped to a level not seen since October last year. While the greenback has stabilized since last week, it remained soft against renminbi. We believe a reason is PBOC's tightening policy. It Various reports signaled that the PBOC has net withdrawn RMB 100B from the markets through open market operations, at which the central bank buy or sell in the market government notes in an attempt to adjust the interest rates slightly. The move came in line with the government's pledge at the fifth National Financial Work Conference (July 14-15) to deleverage, to prevent and resolve systematic risks, and to curb excessive strength in certain asset prices. We expect the tightening measures would affect economic growth, causing slowdown in the second half of the year.