China’s strong start to 2010 backs tightening case

Reuters | Thu Apr 15, 2010 | 1:21pm IST

China chalked up unexpectedly strong annual growth of 11.9 percent in the first quarter, prompting renewed calls for tighter policies to prevent the economy from overheating and stoking speculation on when it will loosen its tight grip on the yuan. The rate of expansion, the fastest since 2007 and above the median forecast of 11.5 percent in a Reuters poll, was flattered by a low base of comparison a year earlier, when the economy was reeling from the global financial crisis. But economists said the figures, released on Thursday by the National Bureau of Statistics, were unquestionably sturdy and would justify a firmer policy stance. Some, but by no means all, economists advocated a pre-emptive rise in interest rates to curb inflationary pressures, while Glenn Maguire with Societe Generale in Hong Kong said he favoured a prompt revaluation of China’s currency.

"Yuan stability and China’s stimulus package made an enormous contribution to global stability in the aftermath of the crisis, but now that China’s economy is growing by 12 percent, it’s time for China to share some of that growth with the rest of the world via appreciating its exchange rate," he said. The Commerce Ministry promptly reaffirmed its opposition to a stronger yuan. A spokesman said Washington was wrong to argue that, by holding down the currency, Beijing was giving Chinese exporters an unfair competitive edge and thereby contributing to near double-digit U.S. unemployment. The yuan, also known as the renminbi, rose modestly in the offshore forwards market, which was pricing in a 3.2 percent rise against the dollar over the next year. That was barely changed from the day before, even though Singapore had fanned market talk of a strengthening in the yuan by pushing up the value of the Singapore dollar on Wednesday in response to blistering growth data.   


Mark Williams with Capital Economics in London said the mildness of price pressures in China meant there was no pressing economic reason for Beijing to let the yuan rise after keeping it pegged near 6.83 per dollar for the past 21 months. While property prices leapt 11.7 percent in the year to March, the consumer price index rose just 2.4 percent, below market expectations of a 2.6 percent increase. "However, economic rebalancing would in the long run be better served by having a stronger currency," Williams said. He expects a shift in both interest rate and the yuan over the next quarter — but with an eye on the medium-term benefits of a stronger currency and higher interest rates. "As a result, the pace of movement will be slow," he said in a note. So far this year the central bank has twice raised the proportion of deposits that banks must hold in reserve and has also aggressively drained cash from the banking system.

But unlike a clutch of Asian neighbours, including India and Malaysia, China has kept its benchmark interest rates unchanged even though it is leading the global recovery charge. "The government is faced with an unpalatable choice: raise rates and dampen the ardour of investors in the real estate sector, or leave rates on hold and allow the property bubble to expand further, and risk inflationary expectations taking hold," said Tom Orlik with Stone & McCarthy Research in Beijing. Instead of acting through interest rates or the exchange rate, the central bank has relied so far on curbing credit growth to keep the economy on an even keel. This year’s quota for new bank lending has been cut to 7.5 trillion yuan from a record 9.6 trillion yuan in 2009 when banks lent freely at the government’s behest to support a 4 trillion yuan fiscal stimulus package — spending that the government is now gradually winding back.


The worry for some economists is that Beijing is neverthless falling behind the curve. The State Council, China’s cabinet, promised on Wednesday after a preview of the data to stick to the "appropriately loose" monetary stance and active fiscal policy first adopted at the height of the global financial crisis in late 2008. "Growth is running too hot. It requires policy tightening," said Ben Simpfendorfer, an economist with Royal Bank of Scotland in Hong Kong. He called Thursday’s data "a dangerous mix" because the low inflation reading would delay a rise in borrowing costs. J.P. Morgan, CLSA and Citi were among banks that promptly raised their growth forecasts for 2010, a year in which China will almost certainly overtake Japan to become the biggest economy in the world after the United States.

In addition to quarterly GDP, China released a batch of figures for March that were strong and close to expectations. Retail sales rose 18.0 percent from a year earlier, factory output grew 18.1 percent, and urban investment in fixed assets like roads and factories rose 26.4 percent in the first quarter. "This year, the economy’s momentum has increased. We are off to a good start," statistics office spokesman Li Xiaochao said. The figures cap a good week for the Asian economy. Apart from the growth surge that prompted Singapore to let its currency appreciate, South Korea won an upgrade of its sovereign debt rating on Wednesday from Moody’s Investors Service.

Encouraged by the bullish news, non-Japan Asia stocks rose on Thursday to their highest level in almost two years. However, regardless of the degree of policy tightening to come, the first quarter could well prove to be the high watermark for growth this year. For a start, Li from the statistics office noted, the base of comparison will become increasingly demanding. "The global economy is recovering slowly and it is not yet balanced. Commodity prices are high and there are sovereign debt worries in some countries. So there are many uncertainties," he added.


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