By Ulf Bergman
As the Chinese economy powers on, many commodity traders are likely to keep an anxious eye on the Chinese government and specifically its intentions regarding the future of the fiscal stimulus programmes. Much of the strength in the recent months for commodities and dry bulk shipping has been down to Chinese buyers purchasing unprecedented quantities of many commodities, as the stimulus fueled Chinese economic recovery took hold. There is a worry that the recent strong run for the economy will see the Chinese leadership reining in on the extent of fiscal measures it is providing to prop up the economy, as there is a risk that continued support could lead to asset bubbles and the economy overheating.
Additionally, debt levels in the Chinese economy was already a concern for the government before the pandemic and Beijing has decided to resume its battle on debt, which was derailed by the pandemic and the trade war with the US. The strong industrial recovery has also driven many commodity prices considerably higher, with Chinese producer prices increasing more than expected in March. The concerns over debt, inflation and the future of the fiscal stimulus have also seen the Chinese equity markets retreating from their highs in late February, with current levels around fifteen per cent below the peak. (The sizeable fine imposed on tech giant Alibaba over the weekend is also unlikely to help sentiments.)
Shanghai Shenzhen CSI 300 Index
The Chinese economy has gone beyond the recovery phase and is currently larger than it was before the start of the pandemic, with much of the economic stimulus aimed at making up for the weakness in the global markets. However, the recovery has so far been unevenly distributed and mostly concentrated to the manufacturing sector, while consumer spending growth has remained sluggish. Insufficient income growth and concerns about the future strength of the economy have tempered the Chinese consumers’ spending and failed to put the recovery on a solid footing.
The ambition of the Chinese government in the current five-year plan to reduce the country’s reliance on the global market has increased the importance of domestic consumption, but many economists argue that it will not be sufficient for meeting the economic growth targets. While household spending is widely expected to bounce back once the pandemic is over, it is unlikely to generate the required traction in the economy. A prominent Chinese economist and former advisor to the central bank, Yu Yongding, contended in a recently published article that consumption cannot become the main driver of economic growth on its own. Hence, there is a strong argument for maintaining an expansionary fiscal stance and invest in infrastructure projects, which he maintained was “too low”. While investments in fixed asset grew by an impressive 35 per cent in the first two months of the year compared to the same period in 2020, it was mainly due to a very low base. Compared to the same period in the last normal year, 2019, the growth in investments was considerably more modest at 3.5 per cent.
If there is a broader recognition that the Chinese consumers do not have the power to fuel the continued expansion of the Chinese economy, we are unlikely to see a major reduction in the economic stimulus programmes with demand for imported commodities remaining strong. The Chinese leadership will face a considerable challenge with controlling the increasing leverage of the economy while meeting its targets on economic growth. Some high-profile projects, such as the additional expansion of the high-speed rail network, have also been rejected on concerns of increasing debt levels. The moderate, by Chinese standards, growth objectives are perhaps a reflection of the balancing act Beijing is facing.
However, a failure to maintain the momentum of the domestic economy could come at a considerable political cost for Beijing and may be unacceptable. Allowing the fiscal stimulus programmes to remain in place, albeit in a reduced form, could be the lesser of two evils in this context. The continued strength of the steel production in China is perhaps a testament to this and it could keep fuelling the demand for iron ore and coal. Additionally, a more broad-based global economic recovery will diversify the demand for commodities and have the potential to offset any Chinese reductions.