The health of the Chinese economy is clearly in question.
The recently released 2018 growth figure of 6.6 per cent, while high by developed market standards, is China’s worst showing since 1990. Some sceptics doubt that growth is even as high as that.
If you only listen to the commentariat, you would be forgiven for concluding that the US-China ‘trade wars’ are responsible for weakening growth. But this focus is misplaced.
Employment front and centre
Social stability is at the heart of the Communist party’s legitimacy as a one-party state. Employment is, therefore, the overriding driver of Beijing’s policy decisions.
A side effect is that investors cannot put too much faith in the ‘politically sensitive’ official data, which show a low and ticking-down unemployment rate. Similarly, a country with demographics implying no labour force growth and reported 6 per cent plus GDP growth should have relatively little issue with employment. But this seems at odds with the on-the-ground reality.
With China’s growth weakening across a plethora of indicators, from retail sales to business surveys, we would not be surprised to see employment concerns persisting.
But to accurately assess the health of the labour market we must look beyond ‘anecdotes’ and the problematic official employment data.
A better option is to track the employment components of the Chinese Purchasing Managers Index .
Here, the story is that the picture is only slightly softer than in the past couple of years (as of December 2018).
As with all economies, China’s employment is a highly important – but lagging – indicator of growth. Where growth goes, employment will follow – not the other way around.
The bigger issues
For investors, it is problematic to focus on the trade war as a driver of both growth and employment at the macro level.
It is worth remembering that Chinese exports to the US are 4 per cent of GDP, while China’s infrastructure investment comprises 20 per cent.
We must not lose sight of China’s huge domestic market as the main driver of overall conditions.
In reality, China’s slowdown has primarily been driven by China’s significantly negative credit impulse, as Beijing prudently gets to grips with a large debt burden and risky past behaviour in the financial sector.
Despite some easing since mid-2018, our preferred credit ‘impulse’ measure – that is, the change in new credit issued as a percentage of the GDP – ended 2018 as the most negative on record.
The two key signposts for Chinese policy – the Central Economic Work Conference, and Chinese President Xi Jinping’s speech at the 40th Anniversary of China’s opening up and reform – have come and gone.
Both were disappointing in a sense, indicating neither ‘big bang’ stimulus as seen in past cycles, nor an appetite for genuine reform to put private and state-sector enterprises on a level-playing field.
More policy easing is nonetheless expected, but its form and impact remain uncertain. Markets may be getting too excited. More targeted easing measures are likely, but questions remain over the effectiveness of their transmission to the real economy without meaningful reform.
What to watch
So, how can medium-term investors cut through the noise and get a clear picture of China’s trajectory in 2019?
First, watch total social financing growth in the first quarter. Second, track the employment components of China’s PMI surveys.
Third, look at China’s infrastructure investment data – a key lever that Beijing can pull to stabilise the economy.
And finally, diversify your portfolio sufficiently so that you can enjoy the Trump-Xi theatrics without worrying about permanent capital loss.
Ian Samson is a markets research analyst at Fidelity International
