A good two months since the outbreak of the coronavirus, many forecasters are predicting a sharp fall in China’s economic growth in the first quarter. How deep could the dip be, what has the stock market priced in and what would a recovery look like?
- Q1 growth could fall by two-thirds
- Selected factors might limit damage
- Beijing’s measures to prevent a hard landing
- Above-trend growth in Q2-Q4?
There is now a market consensus for China’s gross domestic product growth to fall sharply in the first quarter. The dip could amount to as much as four percentage points, taking the Q1 growth rate to just 2% from the same 2019 quarter. That would be well below the official annual target of 6% growth and could jeopardise Beijing’s goal to double real GDP this year from 10 years ago.
Exhibit 1: Coronavirus to hit Q1 2020 GDP hard, followed by a V-shaped rebound if the virus fades by the end of Q1 – graph shows economic growth rates compared to the year-ago period and the previous quarter (in %)
Source: CEIC, BNPP AM (Asia)
Such a bearish forecast is not reflected in stock market pricing. Since the actual adverse effect of the virus on the economy in terms of lower production, exports, retail sales, travel, tourism, etc. is highly uncertain, the downside potential for Chinese stocks is probably bigger than expected in the short term.
Exhibit 2: Shares in industries such as air travel have sold off since the coronavirus outbreak; a comparison with the fall in the wake of the SARS crisis suggests the tailspin has further to go – graph shows drop of global airline (AWCI) stocks and Chinese and Hong Kong counterparts relative to losses during the SARS epidemic (x-axis = number of trading days from when the crisis first affected the market)
Source: FactSet, BNPP AM
The five severely-hit sectors – manufacturing, wholesale & retail, construction, hotel & catering, and transport, storage & post – hire 65% of China’s non-farm workforce.
Most of these jobs, and production centres, are in the five coastal provinces in the southeast. Disease-related stoppages mean big disruption to the export and manufacturing sectors.
The provinces sell USD 1.7 trillion of goods to the rest of world, accounting for 70% of China’s exports. If they cannot resume production swiftly, there will be a significant disruption on the global supply chain.
A more limited effect than SARS?
There are reasons to believe that the economic damage would not be as bad as many observers have feared. In contrast to the outbreak of the SARS virus 17 years ago, consumers are increasingly shopping online. A rise in ecommerce should offset much of the drop in sales at bricks & mortar shops caused by the coronavirus outbreak.
Furthermore, at 2%, the mortality rate of the coronavirus is much lower to date than the 10% rate of SARS, though it may have a faster transmission rate and it has already killed more people than SARS.
Beijing has reacted firmly, with aggressive measures to isolate actual and potential patients from the rest of the population. This has improved the chance of containing the epidemic and thus increases the likelihood that the lost output in Q1 2020 can be offset by increased activity in the rest of the year.
Steps Beijing could take to tackle the fallout
Changing the full-year growth target is an option, though that could be seen as a hard landing for the economy. Protecting it will require Beijing to ease interest rates and economic policy aggressively to ensure a rebound in the remaining three quarters of 2020.
We can expect the following:
- More cuts this year of interest rates on lending facilities such as the MLF, SLF and PSL, and a loan prime rate cut, with another 50bp now expected compared to 20-30bp forecast earlier and another 100bp cut in the reserve requirement for banks compared to the expected 50bp, freeing up bank capital for use in the wider economy
- Policies directing financial institutions not to pull back loans from the affected companies and to allow flexibility in debt-servicing payments in affected areas
- More fiscal spending on infrastructure, possible tax cuts and a delay on tax payments, as well as emergency relief for affected areas and cities. This would cause the fiscal deficit to rise to an official 5.5% of GDP this year from 3.1% last year
- Monetary incentives such as hardship funds, social security tax exemption or outright tax exemption to encourage companies to refrain from laying off workers
- If push comes to shove, measures to boost the housing market.
Barring an economic hard-landing, there will be no massive reflation.
Growth impetus from recovering car and electronics sales
Businesses that customarily see a pick-up in activity from Q2 onwards could lead the rebound: the construction and manufacturing/industrial sectors, notably cars and electronics. Typically, 85% of construction occurs in Q2 onwards, while electronics production is usually concentrated in the second half of the year.
The car and electronics sectors (approximated by smartphone output) were already recovering late last year. Sales are likely to improve once the epidemic is contained.
The coronavirus outbreak is understandably causing alarm in China and elsewhere. However, from a macroeconomic and policy perspective, we believe it is too early to panic. We see scope for growth at an above-trend pace in the rest of 2020, offsetting the output loss in Q1, so that full-year target growth would not be affected. This assumes the coronavirus crisis peaks in Q1 2020.
Also read Outlook 2020: China in 7 themes
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