Tuesday, December 9, 2008

China's Economy: Some Reason for Hope

Chinas Economy: Some Reason for Hope

The economic news from China looks anything but encouraging these days. The export slump is deepening, corporate earnings in the third quarter fell 13% from a year earlier, while industrial output growth has hit a seven-year low and cash-flow problems are plaguing airlines, manufacturers, and beleaguered property companies. The latest evidence of a slowdown: China's auto sales fell 10% in November from a year earlier.

But this litany of woes may indeed mark the beginning of the end of China's economic travails, say China watchers. "Don't be disheartened by disappointing numbers in the fourth quarter," says Jing Ulrich, managing director and chairman of China equities at JPMorgan Chase (JPM) in Hong Kong, who says growth in industrial production and exports may be negative. "I feel there is a glimmer of hope, and the second quarter will show signs of economic recovery." By that time the benefits of China's massive $582 billion stimulus package (BusinessWeek.com, 11/9/08) could start to flow through, and the economy could kick into a higher gear once again. Annual gross domestic product growth could well slow to 7% in the first half but exceed 8% in the second half, says Ulrich, ensuring that the economy chugs along fast enough to prevent unemployment from rising.

Investors were certainly feeling hopeful in trading on Dec. 8. Asian stocks rose sharply, with Japan's Nikkei up 5.4% and South Korea's Kospi up 7.5%. In Hong Kong the benchmark Hang Seng index soared 8.6% on optimism about further stimulus measures from Beijing as well as the incoming Obama Administration. Contributing to the upbeat mood was the opening of an annual meeting of economic policymakers in Beijing. The government's three-day Central Economic Work Conference began on Monday amid widespread speculation that Chinese officials were gearing up for additional measures to stimulate the economy. A recovery in China could also help pull the rest of the region along, says Ulrich. "China is the single biggest trading partner for all regional economies, and if China recovers it will have a multiplier effect," she says.

"Eye-Catching" Rise in Steel Prices

While the picture is grim now, Ulrich isn't the only China watcher seeing some cause for optimism. Merrill Lynch (MER) economists Ting Lu and T.J. Bond, for instance, in a Dec. 8 research report point to a slight rise in the Commerce Ministry's weekly price index of producer goods. After falling for 19 straight weeks since July, the index rose for the week ended Nov. 30, albeit by just 0.2%. However, Lu and Bond describe as "especially eye-catching" a rise in steel prices that has now lasted for three weeks. Following a 60% drop since mid-June, "the turnaround in steel prices may suggest that business confidence is to some extent returned," they write.

Recovery could be particularly strong for building materials companies such as cement maker Anhui Conch Cement and China Shenhua Energy, which stand to benefit from construction of high-speed railways, highways, airports, and power grids, accounting for 45% of the $582 billion pump-priming package, or 6.75% of GDP. "In China's recently announced stimulus plan, cement is the biggest beneficiary among the basic materials," write Credit Suisse (CS) analysts Trina Chen, Kevin You, and Ada Dai in a Dec. 3 report.

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