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As many of you know, China’s economy has struggled in recent years. Back in January, I highlighted how China’s economic outlook was far weaker than many realized - with collapsing property prices, weak consumer spending, a poor demographic trend, and banks bloated with toxic debt (read here).

Furthermore, I hypothesized that China would try to "export its way out of a slowdown." (also read here).

  • Simply put, because of weak domestic consumption, China would flood the global market with its excess goods to try and find buyers somewhere else.

The unsurprising drawback? Well, it sparked significant tension abroad, as other nations pushed back to protect their own industries and job markets by raising trade tariffs against China.

So, with a struggling domestic economy and an increasingly hostile global trade environment, how could China hit the ambitious 5% growth target Beijing set before the year is over?

Well, to tackle this head-on, Beijing fired a stimulus bazooka - its 'whatever it takes' moment - to try and breathe life back into the economy.

And as a result, the China Securities Index 300 surged nearly 20% by September 30, before markets closed for a national holiday from October 1 to 7.

China CSI 300 Index surged 20% by September 30, 2024 amid stimulus

Figure 1: MarketWatch, October 2, 2024

 

This has set off a wave of ripple effects in markets expecting that the world’s second largest economy would finally get a pulse going.

But the question I ask remains: Can China’s stimulus package turn things around? Or is it simply a short-term spurt to kick the proverbial can?

Let’s take a closer look.

China's Latest Economic Stimulus Measures

Last week - late September 2024 - China unleashed a flurry of moves to boost its economy1 in order to hit their 5% GDP target.

For instance, they cut rates, lowered bank reserves, and aimed to get money flowing into the economy. For stocks, the government set up funds to support share buybacks and future equity growth. They plan to bolster big banks and consider issuing special bonds to keep money moving.

  • In short, they’re doing whatever it takes to try and pump cash into the system and prop up markets.

But keep in mind that at the meat of it, China’s latest stimulus centers on reviving the property sector - once a growth pillar but now in steep decline.

Trying To Reinvigorate China’s Property Sector Is Key

China’s real estate sector has been sinking like a stone over the last few years, which has greatly damaged consumer confidence and economic growth.

China real estate sector indicators continue sinking

Figure 2: CaixaBank Research2, June 2024

 

Remember, China’s real estate sector plays a huge role in their economy.

For example:

Therefore, with falling home prices and developer debt issues, Beijing’s stimulus is easing restrictions – such as lowering mortgage rates, relaxing purchase rules in big cities, and providing favorable lending terms to developers.

These moves have already spiked investor confidence it seems, with Chinese property stocks reaching their highest level in a year, indicating optimism that these measures could lift the struggling market (at least in the short term).

The point is, China's property market is critical to its economy – so keep an eye on it.

China’s Credit Expansion and Infrastructure Investment

To stimulate growth, China is encouraging credit expansion and investment by reducing reserve requirements (RRR) at banks. This means that borrowing becomes cheaper for businesses and households, thus aiming to boost investor confidence and stimulate spending across the economy.

Meanwhile, the government is promoting infrastructure development to spur economic activity, following a pattern of using large-scale investments to drive growth during economic slowdowns.

Ironically, years of excessive infrastructure spending partially contributed to China’s economic troubles. But, like the saying goes, “If the only tool you have is a hammer, you tend to see every problem as a nail.”

Mind the Bigger Picture: China’s Local Government Debt Problem

While the new stimulus measures are clearly welcomed – although delayed - they come amid serious challenges facing China.

For perspective, China's macro leverage ratio - which measures a country's total debt relative to its GDP - reached a new record high of 295.6% in the second quarter of 2024, with corporations and local governments being the red herrings6.

China macro leverage hit a record high 295.6%

Figure 3: MacroMico, 2024


And while this is steep, what’s really worrying is the off-balance sheet debt that local governments have hidden. . .

To give you some context, local governments (essentially provinces/states) had for years taken on huge “hidden” debts estimated over $11 trillion7 (which is over 60% of China’s GDP alone) - to fund infrastructure projects with low returns. And now, these local government financing vehicles – LGFVs - are a bigger threat to banks than even the real estate sector.

  • This is what I'd call a "grey rhino" – aka when risks are so obvious and substantial but mostly ignored.

All this debt could limit the effectiveness of increased lending from the stimulus, since too much debt is already a major problem.

But for now, it at least makes borrowing costs cheaper for those in need.

The Road Ahead: Will China’s Stimulus Be Enough?

China’s stimulus measures are vast, aimed at jumpstarting a slowing economy and preventing further decline.

But will they have a lasting impact? That’s uncertain.

While these steps may boost lending and spending in the short term, they don't address deeper, underlying issues – such as aging demographics, mounting debt, and anemic consumption.

Meanwhile, Beijing’s usual playbook – such as funneling money into banks and infrastructure - is more of the same, bringing its own set of risks.

The massive debts, diminishing returns, and wasteful spending are the consequences of years of such stimulus measures.

Most of these projects don’t even create real economic value, which is why they’ve slid toward insolvency.

  • Said another way, building for the sake of building can mean repaving roads that don’t need it or rebuilding railroads already in good condition. Sure, it can boost jobs and demand in the short term, but that’s not a sustainable long-term plan.

Still, China’s new stimulus is at least a first step toward recognizing the problem. And while it's not a silver bullet, the immediate lift to property stocks and financial markets is real.

Maybe the surge in asset prices will reinvigorate confidence – sparking a new wave of growth? Who knows. It’s not like we haven’t seen it happen before.

As always, this is just some food for thought. And time will tell if it’s enough to balance an economy so far out of sync.

Sources:

  1. China’s Stimulus Blitz: What We Know So Far and What to Expect - Bloomberg
  2. China’s real estate sector: an updated diagnosis (caixabankresearch.com)
  3. Feeling poorer: Property slump hurting Chinese consumers, clouding recovery | Reuters
  4. China's middle class battered by real-estate meltdown | Fortune
  5. China’s Property Market: Explaining the Boom and Bust – The Diplomat
  6. China’s Macro Leverage Ratio Edges Up to Fresh Record - Caixin Global
  7. Trillions in Hidden Debt Drove China’s Growth. Now It Threatens Its Future. - WSJ

Disclosures:

This communication is general in nature and provided for educational and informational purposes only. It should not be considered or relied upon as legal, tax or investment advice or an investment recommendation, or as a substitute for legal or tax counsel. Any investment products or services named herein are for illustrative purposes only and should not be considered an offer to buy or sell, or an investment recommendation for, any specific security, strategy or investment product or service. Always consult a qualified professional or your own independent financial professional for personalized advice or investment recommendations tailored to your specific goals, individual situation, and risk tolerance. All examples are hypothetical and are for illustrative purposes only.

Information contained in the materials included is believed to be from reliable sources, but no representations or guarantees are made as to the accuracy or completeness of information. This document is provided for information purposes only and should not be considered as investment advice.

Index Definitions

CSI 300 Index - is an indicator of the performance of Chinese stock markets. It includes the top 300 stocks traded on the Shanghai Stock Exchange and the Shenzhen Stock Exchange.

You can not directly invest in an index.

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