Maybank FX Flash - China Gives Growth a Nudge to No Cheer

Dear Clients and Friends,

China Gives Growth a Nudge To No Cheer

      China State Council announced a mini stimulus package which includes an extension of tax breaks, redevelopment of urban areas and additional investment in railway and construction.

      Market is unexcited. Focus was rather similar to the mini stimulus last year. Extension of tax breaks to 2016 suggests a longer-than-expected period of uncertainty and structural adjustments. Overhang of credit issues weighs.

      Yuan weakens in range. The lack of reaction in the FX space suggests some level of disappointment.

      More volatility ahead but we are optimistic on China’s capability to obtain a favourable outcome. Hence, we expect USD/CNY to back on the downward drift towards 6.00 by the end of the year.

 

      China’s State Council announced a mini stimulus package that includes the extension of tax breaks for small and micro enterprises from end 2015 to end 2016. More companies could also be enjoying the tax breaks as the government decides on whether to raise the taxable income threshold from the current CNY60,000. Authorities wanted to ensure more support for small and micro enterprises to boost employment.

      More railway spending. Another feature of this stimulus package is fast and stable investment in railway and other construction. 6,600 km of new lines will commence operation, an addition of 1000 km compared to last year. Private investment is encouraged as the government sets up a railway development fund. Apart from the income and employment boost that the acceleration in railway construction and investment should provide, this move could improve urbanization and social mobility. To step up on these initiatives, rundown urban areas would be redeveloped. A railway development fund will be established with a projected value of CNY 300bn and up to CNY150bn worth of notes will be issued. Banks are encouraged to participate, according to the State Press.

      The package did not excite markets. This is similar to the mini stimulus last year. It was probably too targeted for investors’ tastes but we think reasonably so. Boost to income is likely too modest to lift the softening property sector. Tax breaks were merely extended, providing support to small and micro enterprises but the message behind the move is less assuring. In fact, the extension signals a longer period of uncertainty than previously expected by the government. In addition, the taxable income threshold is not raised yet. Nonetheless, this package, in our view, is in line with the 2014 NPC agenda. We stated in a note dated 13 Mar that despite the emphasis on reforms and restructuring, growth will not take a backseat. The latest move is a response to a string of lackluster manufacturing indicators, credit and exports numbers. Maintaining employment is key according to Premier Li Keqiang and the package could cushion downside unemployment risks. Moreover, the government is still haunted by the surge in property prices after the 2009 stimulus. All in all, the above measures provide small boosts to the slowing economy but will not remove the rot of credit issues.

      Yuan weakened, taking the cue from the higher USD/CNY fixing. 1-Year NDF was already on the uptick in late Asia on Wed before extending upside to print 6.2265 as we write. Upside momentum is still lacking. Offshore, USD/CNH crept higher to around 6.2074, still near the middle of 6.19-6.22 range. Upmove was in tandem with NDF and also in reaction to the higher USD/CNY fixing. The Shanghai Comp pared morning losses to flat by mid-day and extended losses after lunch. As we write in post lunch trade, USD/yuans are still largely within their familiar ranges. The muted reaction suggests some level of disappointment.

      We still view the present calm as only tentative. The stimulus was not out of our expectations as indicated by our flash note dated 1 Apr and titled CNY holds steady Despite HSBC PMI-mfg Decline.  We cannot rule out more volatility in the yuan given the fact that the next two quarters would be more telling of how well the government is able to manage credit risks, implement financial reforms and balance growth and stimulus. We are sanguine on its capability to attain a fairly favorable outcome. Confidence is expected to return at that point and nudge USD/CNY back on the downward drift towards 6.00 at the end of the year.

Rgds,

Maybank FX Research

Global Markets

Maybank