HSBC reports of encouraging data that point to a robust pick-up growth in Asia:
Start with China. Its economy, clearly, has become the engine of regional growth, if not the world at large. So any hiccup there sends shivers through financial markets. Talk of a hard-landing is making the rounds, including speculation that a bubble is about to pop. We share some concerns about structural imbalances, but the current pessimism is misplaced.
Qu Hongbin, our Chief China economist, has, in fact, long warned that the economy may face some headwinds this year as tightening measures are gaining traction. That is exactly what's playing out: monetary conditions have become more constricting after a major boost over the past couple of years. Growth, as a result, is slowing. But this amounts to a temporary slowdown, not a meltdown, in his words.
Last week, HSBC released its flash PMI reading for the country. This showed another drop in the headline index. The final number, of course, will be out this week and may give a slightly different message (though the flash reading is usually a good guide to the full measure).
Lots of investors seem to worry that activity may be slowing further. But, there are two points to make here. First, as Qu Hongbin has noted frequently, the current level of the PMI is still consistent with robust GDP growth (about 8.5% y-o-y by his reckoning). Not exactly the end of the China story.
Second, and in our view more importantly, the flash PMI saw a sharp drop in the input and output price components (the former plunged from 60.1 to 52.1, while the latter fell from 54.6 to 51.1). This is big news. It points to a surprisingly rapid let-up in pipeline price pressures, which should quickly help to rein in China's elevated consumer price inflation.
This will ultimately provide room for the authorities to help support growth if there is, as some seem to suspect, a more dramatic plunge in activity than anticipated. We are probably not quite done with tightening just yet. Qu Hongbin, for example, expects at least one more RRR hike. But, the end of the inflation battle seems near. China's Premier Wen Jiabao, for one, seems to think so as he stated in his widely cited FT article last week.
The second big, recent news was the decision by the International Energy Agency (IEA) to release some 60 million barrels of oil to the market over the coming month. Brent started the week trading around USD 114 pb, and now stands around USD 105. Let's put the move in perspective. If oil continues to trade at this level through the third quarter, according to our quick, back-of-the-envelope calculation, this should amount to at least a USD 100bn boost to the world economy.
Our US chief economist, Kevin Logan, believes that lower gasoline prices will provide significant support to US consumer spending during the coming quarter. Already, gasoline prices in the US have dropped to around USD 3.65 per gallon, down from a peak of near 4 dollars.
Of course, there are no guarantees that oil does indeed behave as hoped. It could rally once again, although this, most likely, and barring any major geo-political crisis, would reflect stronger than expected global economic activity. The IEA's action may also have been a one-off, triggered by the decision from OPEC not to raise quotas (even if Saudi Arabia unilaterally promised to make up for this).
Also, technically, the IEA can only release oil to meet production outages, with Libya's shortfalls being the official reason for the agency's move this time around. But, on the other hand, the IEA's action may have been sufficient to take speculative froth out of the crude market and thus initiate a trend reversal of prices. Also, note that the IEA has sufficient reserves to repeat the action multiple times if it so chooses.
The third piece of positive news comes from Japan. According to news reports, almost all Japanese car producers expect to be near 100% capacity by next month. This matters for growth more broadly. While car production in the country has already recovered quite briskly, exports of car components, as of May, had not (they were still down over 12% m-o-m sa). This, presumably, is because manufacturers prioritized domestic over foreign production. However, this will likely change in the next few weeks.
Already, high-frequency data from the US shows that Japanese plants had ramped up production sharply in the last couple of weeks. Our US economist, Ryan Wang, just published a report on the sector, arguing that the constraints on car production are easing fast, with third quarter GDP growth receiving a 0.4ppt from the car sector alone.
From a macroeconomic perspective, this matters hugely. Although car production accounts directly only for around 2.5% of US GDP, its significance is probably larger if suppliers and retail activity is fully accounted for. According to some industry projections, US car production could rise between 50 and 100% saar in the US over the third quarter.
Note, in this context, the robust capital goods orders report that was released last week, showing a surprising acceleration not only in the transport sector (though some of this is from the aircrafts), but in manufacturing more broadly.
Asia, too, will receive a boost. Thailand's important car industry especially has been hobbled by supply shortages from Japan, and companies from Korea to China also grappled with disruptions. A key indicator to watch this week is Japanese industrial production for May (out on Wednesday), and, even more so, the accompanying output projections for the months of June and July. Also keep a look-out for the BoJ's quarterly Tankan on Friday, though, here too, third quarter projections will be more important the headline reading for the second quarter.
No doubt, risks remain. Flash PMI's in Europe have dropped in June (though, importantly, Germany's IFO keeps flying) and the regional US surveys so far (Empire and Philadelphia) were also downbeat. Sovereign concerns linger in Europe's periphery and the US is headed into a period of significant fiscal consolidation.
At the same time, the global monetary stimulus is still enormous, with real interest rates in emerging Asia, for example, still near record lows. As the temporary drags of Chinese tightening, Japanese supply disruptions, and soaring oil prices lift in the coming months, however, regional economic activity should stabilize quickly as well and, we suspect, re-accelerate. Clearly, there is still some good news out there.
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