Soaring CPI, greater liquidity lead to tightening
Updated: 2010-11-16 07:31
By Banny Lam(HK Edition)
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China has posted several strong domestic consumption-driven indicators of late, all pointing towards economic growth in the fourth quarter of this year. The bright outlook is marred only by a bigger-than-estimated hike in the CPI and rising credit loan growth, both of which were significant enough to lead the People's Bank of China (PBoC) to impose further monetary tightening measures.
The latest official figures showed that China's export growth slowed by 6.0 percent month-on-month (MoM) to reach 22.9 percent year-on-year (YoY) in October due to softer external demand now that the peak shipping period for the Christmas season is over, while import growth slowed to 25.3 percent YoY. Net exports grew substantially to $27.1b in October from $16.8b in September due to a 15 percent MoM drop-off in imports. The increase in net exports is adding appreciation pressure on the yuan and the probability of liquidity inflows to China.
The country's headline CPI reached 4.4 percent in October - far exceeding market expectations - and being driven primarily by a 31 percent surge in vegetable prices. As of November 10, the price of pork, beef, chicken and eggs has soared 10.6 percent, 2.8 percent, 10.4 percent and 25.7 percent, respectively, from a year ago. The headline CPI figures will likely stay high in November.
Meanwhile, liquidity remains ample. Amid the backdrop of new loan growth of 587 billion yuan and M2 expanding 19.3 percent in October, the PBoC raised the reserve requirement ratio (RRR) by 50 basis points to prevent an undesirable asset bubble and manage investor expectations. However, although loan growth should moderate in November and December as financial institutions will likely be less aggressive in extending loans in these two months, we believe M2 growth will exceed the target of 17 percent set by the Central Government.
With expanding inflation and ample liquidity in the market, another hike in interest rates seems imminent. Based on our current CPI forecast for the fourth quarter of this year, we expect the central bank to implement another rate hike of 25 basis points before the year end to manage inflation expectations. However, given increasing liquidity inflows, the impact of the RRR and interest rate hikes on overall market liquidity would be insignificant. Moreover, expanding the rate differential between the yuan and the US dollar should attract greater liquidity inflows, triggering further yuan appreciation.
Retail sales sustained sound growth of 18.6 percent in October, aided by strong holiday sales in the high-end consumption discretionary segment. It was no surprise that retail sales grew by that much. We believe China's robust consumer sector is capable of riding on the trend to outperform the market. As such, the consumer sector remains a favored sector as it will thrive from improving income levels and standards of living.
Fixed asset investment (FAI) posted stronger-than-expected growth, driven by a rebound in infrastructure investment. Total urban FAI growth remained stable and grew 24.4 percent year-to-date, mainly due to a pick-up in infrastructure investment despite moderating real estate investment (12 percent MoM decline). In the meantime, industrial output growth slightly decelerated by growing at a slower pace of 13.1 percent YoY (vs 13.3 percent YoY in September), mainly due to a marginal slowdown in heavy industries.
The author is an associate director and economist at CCB International Securities Ltd. The opinions expressed here are entirely his own.
(HK Edition 11/16/2010 page2)