Government stimulus package provides foundation for next economic growth phase

“Beijing’s fiscal stimulus package, launched in 2009, will see four trillion yuan being pumped into China’s economy over two years, with the central government contributing roughly 30% of the fund,” says Dr. Ludan Liu, Director and deputy head of Fixed Income Department for ChinaAMC, the largest fund house in China with a 10.18% market share as of June this year.

Asked how the package has helped to stabilise China’s economy and provide the foundation for the next growth phase, Dr. Liu cited the lowering of minimum capital ratio from 30% to 20% as a significant boost to the economy.

“Loan growth in 2009 was roughly 10 trillion yuan and we saw the fiscal deficit to GDP ratio go down to minus 2.2%.  GDP grew 9.1% with investment growth roughly 33%.  With net exports contributing 2% to GDP prior to the financial crisis, dropping to minus 4% in 2009, contribution from investment to GDP, at a magnitude of 8.5%, offset the setback in net exports.  To summarise, the stimulus has boosted investment greatly and has helped the economy to stay on track,” explains Dr. Liu. He said that such measures have helped bridge the gap between the more affluent eastern regions and the central and western regions, providing a major boost to the manufacturing sector, strengthening infrastructure in those regions and helping the alternative energy sector and other new growth areas.

Commenting on what he sees as the major growth drivers of the Chinese economy in the short and medium-term, Dr. Liu points to a number of factors not limited to the fact that the market expects some moderation in the tightening of policies.

“Another factor which will help to boost growth in the short-term is that the volume in the real estate market is expected to pick up in the second half of the year.  Another key factor might be the inventory cycle, which whilst currently in reduction mode is expected to replenish in the first half of 2011.”  He said the ongoing trend for industrialisation and the move away from a focus on low value manufacturing will provide a big growth impetus. “Their target market will move from very low end to higher segments and there will be more intensity in technology and capital in the whole process, so we do expect the upgrading in the value chain to occur in the manufacturing sector to be another very important growth driver.  Urbanisation and a general trend to transit towards the consumption and service space of the economy will also become major growth drivers in the medium to long-term,” he adds. 

Exports

Looking at some of the issues and challenges facing the Mainland economy post crisis, recent data has shown strong export growth of around 44% in recent months.  So far Dr. Liu finds no significant evidence in the export data to suggest there might be an impact from the slowdown in the US and Europe.  However, export to emerging markets has been very positive, with recent data showing growth rates of more than 50% and right now exports to emerging markets accounting for roughly 30% of Chinese exports, already more than the 18% for US and 19% for Europe.

“Of course, the US and Europe still account for a big portion of the whole export, but we do see the emerging markets are already a very important export destination and the growth in exports to emerging markets are much higher than that for the US and Europe, especially when some kind of slowdown in the US and Europe is to be expected. That seems to suggest that the Chinese export industry is still very strong and very competitive,” admits Dr. Liu, adding that the People Bank of China’ s promotion of the internationalisation of the yuan is likely to further boost export, certainly in the medium-term.

Evidence also suggests strong domestic consumer demand, with China in 2009 becoming the largest auto consumer in the world, with an estimated 13 .6 million auto sales, representing a 45% growth rate from 2008.  Indeed, China has now overtaken Japan as the world’s second largest economy.

One possible cause for concern, particularly given the tremendous rise in bank lending to the property sector in recent years, is the risk of a property bubble in China.

“In answering this question, I’d like to borrow from Alan Greenspan in that it is very hard to identify bubbles in the first place.  People talk about bubbles and try to analyse them historically, but ex ante it is very hard to identify whether a given situation is a bubble or not,” says Dr. Liu.  “In the case of China’s real estate market there are some signs of bubbles in some areas which may be a cause of concern to some people, for example in tier one cities and Hainan province, where we have seen property prices shoot up within a very short period of time.  In the long-term however, if you want the market to develop healthily you need to have good demand.  You also need to have a good level of affordability,” he adds.

“The other danger is over-investment and for investment to grow too fast relative to affordability,” warns Dr. Liu.  “If you look at the breakdown of real estate lending in China, lending to household through mortgages is roughly 4.8 trillion yuan, with real estate development lending currently at around 2.5 trillion yuan.  If you look at this from a broader perspective, the level of borrowing at the resident level is still very low, and if you play around with aggregate numbers, the resident borrowing versus their deposits is roughly 30%, suggesting a very low leverage level for Chinese residents, which is very different from the situation in the US,” he explains. 

Direct financing

Meanwhile Dr. Liu is positive about the fixed income market and sees great potential in corporate bonds, a market currently standing at close to three trillion yuan.  “To make the whole financial system more diversified and more efficient we need more direct financing and direct financing in the form of corporate bonds is a very good growth area,” notes Dr. Liu, citing the launch in recent years of the medium-term note market (MTN) by the PBoC as a successful boost to the corporate bond market. 

“Demand for high yielding corporate bonds is high. The mutual fund industry represents that demand and the industry has been expanding rapidly in recent years, so I think going forward the corporate bond market will grow hand in hand with the mutual fund industry in China,” predicts Dr. Liu.

Clearly, the changing fund landscape in terms of investor demand and appetite from ChinaAMC’s client base looks set to include higher requirements for product diversification, with high net worth investors being drawn to more tailor-made asset management products such as one-to-multiple segregate accounts.  The company also sees higher requirements for customer services provided by fund management companies and more focus on long-term performance of portfolios, fund manager credibility and branding.

Previously dominated by retail investors, the Chinese local market’s institutional client base continues to boom. By September 2009, total assets under managements by fund management companies for the social security fund, corporate annuities and segregate accounts totalled 15% of the total AUM of the entire fund management industry, with ample stake for further growth as institutional investors’ investment concepts become more mature and risk-conscious. ChinaAMC is pursuing its drive to expand its institutional investor base alongside of its entrenched retail market presence.

Over the past three years, the company has established an independent institutional business team, which besides sharing ChinaAMC’s research platform, carries out independent investments and research, including independent customer services and product research groups, parallel to that of mutual funds.  Significantly, ChinaAMC is expanding internationally with its Hong Kong branch commencing operations in 2008 going against the tide of the recession which has seen western institutions scaling back their global ambitions.  With the planned opening of operations in other overseas locations over the next three to five years and the widening of its product offerings and strategies, ChinaAMC looks to be well on track to secure its regional franchise in the Asia-Pacific region.

In terms of challenges Dr. Liu is philosophical, seeing opportunity in the transitional period ahead.  “Different people look at the issues from different angles, but what we see is that the financial market in China has been relying heavily on the commercial banks, especially the state owned commercial banks, which have become the backbone of Chinese financial system.  However the structure of economy has been changing very fast, so whether or not the current financial system can offer enough support is a big challenge.  We hope that the reform and development of the current system can continue and catch up with the needs of the changing economy.  The focus in the year ahead is on making structural adjustments and optimising business structure, on unwinding some of the measures and trying to avoid potential problems down the road”.