The actions of the Chinese government are scrutinised and sensationalised by Western media. Bad news sells. But much of what we have seen recently in China is comparable to what Western governments have been doing since the GFC. China's market needs to be considered within the context of the unprecedented economic transition China is undertaking. This is part of a long term plan being executed with typical Chinese resolve and efficiency. It is a transition that China's planners are managing closely and purposefully and there is plenty of good news.
On 6 September 2015 the Financial Times reported finance ministers and central bankers from the G20 had indicated their support for China's current economic policy and recent changes to its currency peg, accepting that Chinese authorities were managing a difficult economic transition. Coverage of this story was non-existent in the Australian mainstream press.
Compare this coverage to the coverage of the Chinese Government's intervention following falls on Chinese share markets in June and again when Chinese exports dropped in July and the government responded by devaluing the renminbi. The press sensationalised the negative news with little insight into the complex underlying restructuring of the economy and in turn investors reacted, driving the markets and currency down further. "They (the Chinese) are destroying us", cried Donald Trump. Bad news made the headlines and the subsequent reaction was disproportionate to the action.
What the press and Donald Trump missed is that on June 20, in the middle of this hysteria, the World Bank released its China Economic Update. It also received limited press coverage. The good news was again overlooked.
Overlooked good news headline #1: "Desirable economic growth in China"
The media would have us believe that the slowdown in GDP growth to the recently revised 7.3% is bad. Certainly it is lower than the 10% growth rate average for the three decades earlier, but this slowdown is not unexpected, quite the contrary, this slowdown has gone almost exactly to plan. The 12th five year plan drafted in 2009 predicted Chinese growth in 2015 would be 7.5%.
According to the World Bank report current Chinese growth is "desirable from short- and medium-term perspectives". The report explains China's reduced growth is consistent with the shift from a manufacturing to a services economy, from an investment to a consumption economy and from exports to domestic spending. According to the OECD, the average growth rate of G20 countries is currently 3.3%, with Australia's 2016 rate estimated at 2.4%, both well below China's current 'slowdown' of 7.3%.
Chinese planners have carefully overseen the transition from traditional growth engines of steel mills and factories which now take a backseat to banking and service-led industries. This year for the first time, China is likely to see services represent more than half its economy.
Overlooked good news headline #2: "China's fiscal position strong"
According to the World Bank, "despite a slowdown in economic activity, China's overall fiscal position remains strong". The World Bank concludes that China has enough of a buffer to address global and internal risks, including the shortfalls in local government financing, shadow banking and liquidity in smaller credit markets.
Overlooked good news headline #3: "China remains committed to reform"
In November 2013 at the Third Plenum of the Central Committee of the 18th Party Congress of the Communist Party of China, the government set out its ambitious current reform agenda. Key items, from an international investors' perspective are:
- the commitment to improving capital allocation;
- the continuing opening up of capital markets to foreign investors;
- the streamlining of state owned enterprises; and
- the internationalisation of the renminbi.
To attain these reforms the Chinese government will use whatever policy measures they have available. Despite fear mongering in the press that recent actions by the government are somehow 'abnormal' and therefore the China markets lack the credibility of more developed 'free markets,' the reality is that the conduct of Chinese policy makers is comparable to recent western government activities:
- Like the US government becoming owners of US financial institutions and bailing out car manufacturers during the GFC, the Chinese government intervened to help restore share market confidence during the recent share market falls; and
- Like the UK, the Chinese government has intervened when it felt the market had mispriced its currency. In 1992 the pound fell 15% in a week. By comparison the ~2% devaluation of the renminbi, and its immediate further fall, seems insignificant.
Long term rationale for Chinese equities is intact
Astute investors need to look through the market and media 'noise' to fully understand the complex Chinese economy. From an investment perspective there will be bumps but the long term rationale for Chinese equities is still intact:
- Economic growth: China's share of global GDP is now 10%-15%, up from <5% in 1960. The Chinese economy is returning to its status of a superpower and is predicted to be the largest economy next decade.
- Structural transformation: The Chinese economy is transforming from a production lead to consumer driven economy as:
- the population urbanises;
- per capita income increases;
- life expectancy increases; and
- the middle class grows and with it discretionary spending increases.
- Index inclusion: China has the second-largest economy in the world. The Shanghai and Shenzhen exchanges combined would constitute the second largest sharemarket in the world after the US, yet China only represents between 1 and 2 per cent of global stock indices. The world's largest index providers (FTSE and MSCI) are considering adding China A-shares into their indices. For index tracking funds this means having to make large allocations to China A-shares in order to keep tracking the index.
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