Hang Seng forecasts 6% first quarter GDP growth

Despite reaching above-trend growth, business has turned more cautious and the export outlook is more uncertain, considering adverse impacts of Japan’s earthquake disaster on global supply chains.

The Hong Kong government is set to release its first quarter GDP report on May 13. With exports expanding 21.5%, retail sales value growing 21% and unemployment rate dropping to near a pre-crisis low of 3.4% in the first quarter, the coming GDP reading is likely to be another above-trend growth of 6.0%.

Looking ahead, buoyant consumer demand should continue to underpin growth, although export prospect is more uncertain due to Japan’s earthquake/tsunami’s disruption on the global suSpply chains, as well as the impacts of persistent surge in crude oil prices on the global economy, according to a Hang Seng report.

The inflation outlook is more worrying, as there are more signs of overheating. The Hong Kong economy may be running close to its full capacity after several straight quarters of above-trend growth. Rising import prices stemming from a weakening currency and expansionary monetary aggregates also reinforced the inflation expectations. Inflation is likely to accelerate in coming months with rising price pressure emerging from all fronts.

Another Quarter of Above-Trend Growth
The latest economic reports showed that the Hong Kong economy maintained strong growth momentum in the first quarter with the value of total exports expanded 21.5%, retail sales value growing 21% and unemployment rate dropping to near a pre-crisis low of 3.4%.

As such, the local economy is likely to have expanded 6.0% in the first quarter, at a similar pace of the previous quarter. If our estimates are correct, it would be the fifth straight quarters of above-trend growth..

Contribution to Growth

Larger contribution from net exports
The contribution of net exports of goods and services is estimated to be 3.9 percentage points in the first quarter, slightly more than the 2.9 percentage points in the previous one, reflecting stronger exports relatively to imports.

Consumption demand remains a key driver
Consumption spending stayed robust on the back of rising income and brighter job prospects. The unemployment rate dropped to a pre-crisis low of 3.4% in the first quarter. Wealth effects from rising asset prices may have also played a role. It is estimated that consumption could have contributed 3.6 percentage points to the first quarter growth.

Investment spending was also strong, boosted by the ongoing government infrastructure spending. Nevertheless, the latest survey indicated that business confidence eased and property-related investment might be less buoyant after a slew of government measures to cool the property market.

Although investment spending could have contributed positively to GDP growth, the slower accumulation of stocks is likely to go on, as companies see more challenges ahead. It is estimated that the lower inventory level might have knocked 4.6 percentage points from growth.

Overall, domestic demand is estimated to have contributed 2.1 percentage points to growth in the first quarter.

More Cautious about the Future
Looking ahead, the optimism seems to be giving way to a more cautious outlook. While consumers remain confident about the prospects of the economy, business has turned more cautious and the export outlook is more uncertain, as the adverse impacts of Japan’s earthquake disaster on global supply chains has yet to be reflected.

The Japanese government raised the severity of the nuclear crisis to the highest level and power shortage may go on for months, affecting the global supply chains, which does not bode well for exporters and traders.

Moreover, persistent surge in crude oil prices could dampen the global recovery, posting a major risk to growth. The International Monetary Fund warned about rising oil prices and cut its growth forecast of the US.
Although exports grew strongly by 20.7% in the first three months, we believe export growth is likely to slow significantly in coming months to give a full year average of 15% and see risk to the downside.

A Wary Inflation Outlook
While uncertainties remain, the rising price pressure is of increasing concern. In the first three months, consumer prices rose 4% on the back of rising housing rentals, soaring oil and food prices, reflecting strong demand at home and the effects of a weaker currency. The inflation reading was the highest since the third quarter of 2008.

Wage growth also picked up and might soon feed-through to a broader base, as the economy is running near its full capacity after several straight quarters of above-trend growth.

The expansionary monetary aggregates also worked to stimulate aggregate demand. Hong Kong has experienced strong inflows of capital amidst Fed’s ultra loose monetary stance after the global financial crisis.

Between 4Q 2008 and 1Q 2010, the aggregate banking balance and value of outstanding Exchange Fund paper increased by over HKD650 billion, equivalent to about 37% of nominal GDP in 2010. The aggregate banking balance and value of outstanding Exchange Fund paper have stayed at high level of around HKD800 billion since then.
Liquidity in the banking sector has translated into low interest rates and rapid credit creation. Loan demand has been rising sharply since the third quarter of 2009 amidst an economic recovery. Between September 2009 and March 2010, the total loan-to deposit ratio jumped from 51.0% in to a nearly nine year high of 64.2% and the Hong Kong dollar loan-to-deposit ratio also surged from 70.2% to 81.7% during the same period.

The Fed indicated no rush to change its ultra-loose monetary stance in its April policy meeting, reinforcing expectation of a prolonged inflationary environment.

Economic Forecast
The Hong Kong economy has maintained a strong growth momentum so far. External demand remains cloudy but buoyant consumer demand should continue to underpin growth. As such, we still see a decent growth of 5.5% for 2011. The inflation outlook is more worrying, as there are more signs of overheating.