China cuts spotlight a growth imperative

China has opted for monetary stimulus again, and while this may signal some bad statistics in the pipeline it also reaffirms Beijing's commitment to minimum growth rates – a welcome message for Australia.

China’s decision to cut its benchmark interest rates for the second time in a month could be interpreted in two quite different ways.

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One is that, with a series of economic growth statistics looming next week, officials have had a sneak peak and have been alarmed by what they’ve seen.

The other is that it is a demonstration of their commitment to defending a base level of growth within the Chinese economy.

The real answer probably lies somewhere in between.

It has been clear as this year has progressed that the efforts the authorities made last year to choke off a real estate bubble have been successful, indeed perhaps too successful.

Economic growth has been slowing steadily and inflationary pressures have declined to the point where they are no longer a concern. The response to its own domestic conditions, however, coincided with the emergence of the eurozone crisis and the continuation of weak growth in the US, the two major markets for China’s exports, and combined to have a greater-than-anticipated impact on China’s growth rate.

While growth of 8.1 per cent in the first quarter of the year was respectable by China’s standards there is a strong view within the market, which the rate cut tends to support, that it has slowed further since to around 7.5 per cent, if not lower as exports slowed, manufacturing output dropped and employment started to contract.

With a leadership change scheduled for later this year, the Chinese leadership will do what it takes to maintain solid growth numbers and a reduction in lending rates is one of a number of measures the authorities are expected to take to put a floor under growth rates.

Yesterday they cut the one-year lending rate by 31 basis points and the one-year deposit rate by 25 basis points while, for all but mortgage rates, giving banks the discretion to lend within a bank that is up to 70 per cent of the benchmark rate, compared with 80 per cent previously. The exclusion of mortgages signals they are still focused on avoiding a reflation of the real estate bubble.

There is an expectation they will pump more liquidity into the economy, encourage infrastructure spending and open more of the economy to private investment to provide some additional stimulus. Both the firepower and the armoury of measures the authorities can bring to bear to protect their targeted growth rate are vast.

The fact that China is moving to arrest the economic slowdown is positive for the Australian economy.

As China’s slowdown has evolved the stockpiles of coal and iron ore have grown and coal and iron ore prices have fallen because of the reduced demand from its steel mills. Metallurgical coal spot prices are down more than 30 per cent on their levels a year ago, thermal coal prices nearly the same and iron ore prices more than 20 per cent.

Even if the Chinese authorities are successful in managing to shift the trend in their economy from continuing slowdown to controlled growth, there is no expectation that commodity prices will return to their peaks. But their success would ensure some price stability and stronger volume growth to underwrite the continuing investment and growth in output from the Australian resources sector.

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