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Don’t Bet on More Chinese Stimulus

By Leland R. Miller and Craig Charney | The Wall Street Journal | October 22, 2014 | 2 pages

As long as the labor market and profits remain healthy, Beijing shouldn’t and likely won’t try goosing the economy in the near future.

It took years for the markets to acknowledge that China was slowing down. Now many investors are panicking, calling for Beijing to achieve its growth target by resorting to large-scale stimulus. Yet such a move isn’t justified by the state of the economy.

Beijing is often said to have a choice between pursuing difficult pro-consumer reforms, such as liberalizing currency flows and interest rates, or propping up the economy via stimulus. New data from our China Beige Book—the largest private study of China’s economy—suggest that this debate is proceeding on false premises.

In the just-completed third quarter, China’s economy demonstrated it can weather a slowdown without significant pressure on jobs or profits. The economy thus may be able to absorb pro-consumer and liberalizing reforms—if Beijing has the political will to make them.

This may surprise market participants expecting stimulus. One measure of the cost of capital, the one-year swap rate, plummeted recently to just above the official deposit rate of 3%, and the last time that rate dipped under the benchmark, in 2012, the central bank cut interest rates twice. Several recent “targeted” bank injections have also led many investors to anticipate a bigger bang.

Yet this thesis is flawed. The constant fuss over China’s gross-domestic-product target ultimately derives from an assumed connection between GDP and employment. This connection has always been dubious, and our new data show that China’s labor market remains remarkably stable despite another quarter of limp growth, weak loan demand and sluggish capital expenditure.

Contrary to the claims of smaller surveys like the HSBC -Markit purchasing-managers index, our data show that hiring trends remained stable nation-wide, as they have for the past year, supported in part by slight upticks in the availability of both skilled and unskilled labor. The hint of employment weakness we found in the second quarter even faded away in the third as overall hiring ticked up slightly and the jobs outlook improved to stable. Our measures of labor unrest also dipped down from a year ago.

So despite the deceleration of the economy, the government doesn’t yet face broad pressure from the labor market. This helps explain why monetary intervention to date has been aimed largely at major banks: Their books need the help far more than the economy as a whole.

Corporate data support this view. Producer inflation continues to ease, which could be taken as a sign of emerging deflation. Yet our numbers show sales prices climbed in the third quarter, enabling profit margins to expand at the healthiest pace in more than a year. Seemingly worrisome credit, consumption and aggregate-growth results have been rolling in for some time, yet the labor market continues to shrug them off. Now corporate profits may be doing the same.

Continued credit-market weakness also undercuts the notion that a new wave of stimulus would be beneficial. While our price data confirm there is technically room for more stimulus in terms of inflation risk, the true problem is that intense stimulus wouldn’t work.

Liquidity is hardly a problem, as “broad money,” or M2, is almost $10 trillion higher in China than in the U.S. Yet credit participation has cratered over the past two years: Our data show a drop by more than half in the share of firms borrowing since the first quarter of 2012. Flipping the stimulus spigot back on would thus have little impact, since the supply of credit already exceeds demand.

Firms aren’t just borrowing less but spending less, too. Capital expenditure in the third quarter hit its weakest level in at least three years, with fewer than half of firms surveyed noting any hikes at all. That’s remarkable for an economy in which 20% investment increases have long been routine announcements. Many firms are choosing to watch the economy’s slowdown from the sidelines.

There are certainly reasons for Beijing to be concerned about the country’s growth trajectory, but the rationale for yet more stimulus simply doesn’t exist. So long as the labor market and profits remain relatively insulated, Beijing shouldn’t—and likely won’t—opt for large-scale stimulus in the near future.

Mr. Miller is president and Mr. Charney is research director of China Beige Book International, which is on Twitter as @chinabeigebook.

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