The year 2009 was dark for the global economy. The world was spiraling deep into financial crisis, policymakers were scrambling to find solutions, and activity in China — the world’s most important source of growth and demand — collapsed.
On Wednesday, China released new and convincing indications that the world’s second largest economy has been heading back down that road again. While the country’s first quarter GDP came in at 7% as expected, the data underlying that was screaming that 2009 is back again.
“[N]ominal growth decelerated more sharply, from 7.7% yoy to 5.8% yoy, implying a negative deflator of -1.1% yoy (vs 0.4% previously),” Societe Generale analyst Wei Yao said in a research note. “These figures were nearly as weak as those published at the height of the global financial crisis in early 2009.”
China’s been expecting a slowdown, but not this kind of slowdown.
Policymakers have been trying to move its economy from one driven by investment to one driven by consumption. As part of this transition, it’s taken measures to reform several sectors, most notably the property sector, that had tons money flowing into it during the country’s boom years. That money was based on debt, which can only be expected to be paid back if the economy is healthy and growing as people spend more money.
But the economy is not healthy. Credit growth has dropped substantially to 2009-levels.
And the property sector, which was driving the economy as China continued its infrastructure spending spree, has decelerated substantially.
“The latest signs on the all-important real estate sector point to a continued contraction,” noted Bloomberg economist Tom Orlik. “Sales volume and the area of new land under construction both continued to fall in the first quarter. Land sales, a crucial source of revenue for local governments, are down 32 per cent. Credit data was a little more positive, with the People’s Bank of China reporting that loans to the real estate sector rose 19.4 per cent year on year in the first quarter.”
Policymakers need to do more to avoid a “hard landing.”
The central government wants to put its foot on the brake here, just not so fast that growth collapses before the Chinese people can save themselves with spending.
That collapse in growth is the “hard landing” economic scenario everyone has been fearing for years, and the government’s reforms are unfortunately pushing the economy in that frightening scenario.
“The reform is negative to growth in the short term,” Yao said in a phone call with Business Insider. “China is not yet out of the woods of a property sector correction and we are not seeing the impact of fiscal reform yet, it’s still decelerating at an alarming rate.”
The government has taken a number of easing measures to stop “hard landing” scenario from materialising. However, Yao said that we may not see the impact of those measures for one or two quarters.
The question is whether or not that’s not soon enough since land sales and other parts of the property market are already crashing.
“Credit conditions have not yet improved meaningfully since the reduction of both policy interest rates and the required reserve ratio (RRR) in February,” Yao wrote. “However the central bank cannot really be blamed. In an economic downturn, rising risk aversion accompanies rising credit risk and a credit demand recovery lags monetary policy easing. Nevertheless, policymakers need to do more to avoid a hard landing.”
What “doing more” means is possibly holding off on reforms. However, doing that means taking on more debt, and that’s dangerous. There are difficult choices ahead.