Keeping cool as China's new reality sets in

About the only thing that can be said definitively about the ‘’disappointing’’ Chinese first quarter GDP numbers is that the markets’ reaction to them underscores how sensitive they are to anything that smacks of bad news out of China.

China did, after all, only fall a few bips short of consensus expectations of its growth rate, with GDP growth of 7.7 per cent against the consensus that it would come in around 8 per cent.

Given that it is only a quarter and also that China’s economic statistics tend to be viewed with considerable cynicism the sell-off in equity, commodity and currency markets that the release of the March quarter data triggered throughout the region might have been a little premature. It may also be that China is going through one of its periodic de-stocking cycles, affecting industrial production and investment.

Even if the slowdown in consumption growth and slowing investment in property that the data appears to reveal does reflect developments in China, however, that wouldn’t necessarily be a major negative.

China’s new leaders have made it clear that they want to shift the balance of China’s growth away from investment and exports towards domestic consumption and are less focused on the quantum of growth than on its quality and sustainability.

They have pulled back on profligate spending by government officials and state-owned companies and signalled their intention to clamp down on property market speculation, although there are still very strong levels of credit growth occurring within the economy which may boost growth later in the year.

China’s own target for GDP growth this year is 7.5 per cent, although in the past it has consistently over-shot its stated targets. Given the recessed state of Europe, the still-weak state of the US economy and its own efforts to reorient its economy towards more sustainable and stable growth it wouldn’t be surprising if the growth rate this year was at the lower end of expectations.

In fact that is something the markets, and resource companies in particular, will have to learn to live with.

BHP Billiton’s chief financial officer, Graham Kerr, told a conference in Sydney only last week that BHP believed China would aim for more ‘’moderated’’ growth of around the 7-8 per cent mark over the next few years, trending down to 6 per cent. That’s a long way short of the double-digit growth rates China generated during the period of the resources boom.

Combine the likely lower growth rates (albeit from an economic base that has grown dramatically in the past decade) with the significant expansion of supply still occurring in commodities and the impact on resources companies and economies is likely to be leveraged, which is why the sector has been mothballing plans for new investment and is now focused obsessively on cost bases that were inflated during the boom period.

To maintain social stability and their own positions, the Chinese authorities will, of course, do whatever it takes to maintain solid rates of growth and have the capacity and demonstrated willingness in the past to run more expansive fiscal policies if they feel growth is likely to significantly under-shoot their own targets and threaten that stability.

Thus, while China’s economy might grow at lower rates in future than it has in the past there is probably a base level of growth that will continue to support growth in resource sectors volumes, if not prices, for lower-cost producers.