MACQUARIE: China's 'hard landing' may have already taken place

Photo: Henrik Berger Jørgensen/ Flickr.

While financial markets continue to debate whether or not the Chinese economy will suffer a so-called “hard landing”, perhaps, based on recent anecdotal evidence, it has already occurred.

That’s the view of Viktor Shvets, Chetan Seth and Xiao Wen, members of Macquarie Bank’s equity research team, who suggest that recent analysis released by the US Conference Board points to the likelihood that China’s economy is growing nowhere near the rates reported by the Chinese government.

As a starting point, the trio outline the reasons why the official government GDP data may have overstated growth over recent years.

Over the last decade, China has been gradually moving from the Soviet system of collecting information as an output model (measuring production by sectors with information flowing from local officials up the chain) and towards the internationally recognised system of national accounts (SNA), which relies not on internal reporting but rather on sophisticated statistical surveys of consumer spending and investment. Whilst China’s systems have been gradually changing, the transition is far from complete and China continues to operate on a version of output system.

Essentially, while the government is moving toward an internationally recognised system for measuring economic output, the current system remains outdated.

According to Macquarie, the analysis conducted by the Conference Board suggests the real Chinese growth rate has been far more volatile than official numbers have indicated, with the government data both understating and overstating growth in the years following the global financial crisis.

However, while significantly more volatile, over the past five years the analysis from the Conference Board suggests that the growth numbers reported by the government have been grossly overstated.

Using the alternate growth measure, Macquarie notes that the economy likely grew by 4% on average over the past five years, well below the 7.7% level reported by the government.

The chart below, by Macquarie, reveals the substantial difference between the official GDP growth figures and those from the Conference Board seen in recent years.

Shvets, Seth and Wen believe that the Conference Board analysis is far more in line with the most widely-cited alternate Chinese growth measure, the Li Keqiang index, although in their opinion the Conference Board measure is more sophisticated.

Conference Board’s new numbers are far more in line with the Li Keqiang (LK) index but, unlike LK, it includes extensive changes to industrial and service economies rather than focusing on industrial and banking sectors,” say Macquarie.

The Li Keqiang index measures electricity consumption, railway cargo volumes and bank lending to gauge a more realistic view on activity levels within the Chinese economy.

The index, named after the current Chinese premier, was first created following remarks from Li, then Party Committee Secretary of Liaoning, in which he stated that official provincial GDP figures were “man made”.

To Shvets, Seth and Wen, the disparity between the government data and alternate growth indicators, raises the question whether the Chinese economy has already suffered a “hard landing”.

“In our view, the (Conference Board) numbers explain the current state of commodity markets and fit into the global deflationary narrative much better than official numbers,” wrote the trio.

Not only that, Macquarie suggests that if the “estimates are right, the room for stimulus and investment is more limited and the need to drive productivity (structural reforms) much more urgent”.

While Chinese policymakers have already made plenty of noise about the need for structural reforms, including from the premier, economic conditions throughout China may not be anywhere near as strong as official growth figures would suggest.

If true, the reforms that need to take place within China’s will begin at a time when the economy is already weak, increasingly the risk that policy missteps could drag growth even lower, and not just in China.

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