Analysts suggest that China’s slowing economic growth might require more than just interest rate reductions to recover, following a recent announcement from the People’s Bank of China (PBOC). On Tuesday, the PBOC unexpectedly revealed several rate cuts, including one affecting existing mortgages. While this decision led to a surge in Chinese stock prices, experts believe that bolder actions, such as fiscal stimulus, are essential for a genuine revival of the economy.
Larry Hu, the chief economist for China at Macquarie, remarked, “This move could signal the beginning of the end of China’s longest deflationary streak since 1999.” He added, however, that these rate reductions must be accompanied by substantial fiscal spending, particularly in the housing sector, to ensure sustainable growth. There is a consensus among analysts that persistently weak domestic demand is a significant burden on the economy.
While the stock market reacted positively, the bond market exhibited a more cautious stance. Recently, yields on Chinese 10-year government bonds initially fell to a historic low of 2% following the rate cuts, before stabilizing at 2.07%. In contrast, the U.S. 10-year Treasury yield is currently at 3.74%, highlighting a notable disparity in economic prospects between the two nations.
Edmund Goh, who leads China fixed income at abrdn, expressed that without robust fiscal policy backing, an increase in Chinese government bond yields seems improbable. He expects that Beijing will be compelled to introduce more vigorous fiscal stimulus in light of ongoing lackluster growth, despite the government’s prior hesitance regarding such measures.
Historically, Chinese bond yields have been higher than their U.S. equivalents, making them appealing investments. However, since April 2022, U.S. yields have surpassed those in China, largely due to the aggressive interest rate increases enacted by the U.S. Federal Reserve. Even with the Fed easing its monetary policy, the yield discrepancy between the U.S. and China continues to expand.
Although China’s economy grew by 5% in the first half of 2024, there are fears that the full-year growth may not meet the government’s target unless further fiscal stimulus is introduced. Industrial activity has decelerated, and retail sales have seen only a modest year-on-year increase of 2% in recent months.
While some fiscal measures have been put in place, analysts suggest they fall short. The Ministry of Finance has maintained a conservative stance, setting a 3% deficit target for 2024. A report by the China Finance 40 Forum (CF40), a well-regarded Chinese think tank, indicates a need to address a 1 trillion yuan shortfall to meet the government’s spending objectives for the year.
Louis Kuijs, Chief Economist for APAC at S&P Global Ratings, observed that the recent U.S. rate cut offers some respite for China’s currency and exports; however, the nation’s economic expansion will still hinge on more vigorous fiscal policies. “Bond issuance has been slow, and there are no signs of substantial fiscal stimulus plans,” Kuijs added.
PBOC Governor Pan Gongsheng acknowledged these concerns, noting that the central bank is working collaboratively with the Ministry of Finance on bond issuance and underscoring the necessity for more comprehensive fiscal support to achieve significant economic growth.
In the near term, experts anticipate that Chinese bond yields are likely to remain around 2%. Haizhong Chang, executive director of Fitch (China) Bohua Credit Ratings, explained that an interplay between fiscal stimulus and monetary easing is crucial for effectively channeling credit into the real economy.
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