INSIGHT: China – determinants of growth in 2013

28 February 2013 17:22  [Source: ICIS news]

By John Richardson

PERTH (ICIS)--Was there even a recovery in China in the first place?

"The official data shows resurgent exports coming into 2013, with 14% year-on-year growth in December,” wrote The Wall Street Journal in a 22 February article.

"But a growing discrepancy between data on China's exports to Hong Kong and Hong Kong's imports from China, suggest that might be an exaggeration. Louis Kuijs, China economist at RBS, says that export growth could be overstated by as much as 4 percentage points."

Stephen Green, China economist at Standard Chartered, even suggests that actual GDP  growth in China was last year only 5.5% against the government’s claim of 7.8%. His calculation is based on a different measure of service sector inflation to the one used by Beijing.

Macro-economic data is gathered in such a hurry in China, and there is such a strong political motive to adjust statistics according to what is required by the country’s senior leadership, that none of the country’s GDP numbers can ever really be trusted, said Sydney University professor, Dr John Lee.

“The point is that we cannot know whether China really arrested seven consecutive quarters of declining growth [in the fourth quarter last year], just as we cannot know whether the figures for the last seven quarters really were,” he added.

Nevertheless, polyethylene (PE) markets have taken great heart from the apparent recovery in China’s economy. Pricing began to rally in early November and has been on an upward trajectory almost ever since.

China PE upward trajectory

It was clear last year, and it has become even more obvious now, that China had created the wrong kind of recovery, even where the economic data could be trusted.

The increase in bank lending in May-October and the allocation of $1,100 billion for infrastructure spending, which was likely to have been politically motivated, was always going to create harmful inflationary pressures, including pumping more air into the property market bubble.

Another transparent concern was that a lot of this extra money would be misallocated, adding to bad-debt problems.

Thus, it was only the timing of tighter liquidity that should have been in question, not whether it would happen at all.

Tighter liquidity has happened a lot earlier than even those cautious about recovery had expected.

Last week, the People’s Bank of China (PBOC), the country’s central bank, withdrew yuan (CNY) 910 billion (US$145 billion) from the banking system, a record high weekly net drain, according to Bloomberg.

This week, the PBOC has said it will maintain its tightening stance and the government has announced efforts to cool-down the real estate sector.

Reining-in shadow banking is also on Beijing’s policy agenda.

CEIC, the emerging market data experts, Bernstein and China’s National Bureau of Statistics calculate that total credit in China’s financial system reached an all-time high last year, when Social Financing (the shadow banking sector)  is included along with Total Loans (formal lending via the state-owned banks).


Shadow banking comprises relatively unregulated and highly speculative off-the-book loans made by the state-owned banks, via Wealth Management Products, and the enormous number of privately-owned lending agencies or syndicates.

Bad debts in the shadow banking sector represent a systemic risk, warn economists.

What do tighter liquidity and a more regulated financial sector mean for the chemicals industry?

Small and medium-sized enterprises (SMEs), which often depend on private borrowers for their financing, could once again find it more difficult and more expensive to obtain credit.

The SMEs, which make up the bulk of China’s resin buyers, were already struggling from higher fuel, resin and labour costs, along with tighter labour supply. Post-Lunar New Year, labour availability has become even  more of a problem.

A  Singapore-based polyolefins trader said he was “flabbergasted” by how weak demand had been since the end of the Lunar New Year break.

“I expected that much more restocking would have taken place by now. The processors are sitting on reasonably low inventories, but are in no hurry to enter the market which suggests their orders must be weak,” he added.

“The traders are also reluctant to stock-up. As for the producers, they are also sitting on low inventories. As a result, they are able to stick to attempts to raise prices but they are having very limited success.”

Despite the positive economic data, southeast and northeast Asian integrated high-density PE (HDPE) variable cost margins were weak from Q4 up until the week ending 22 February, as the chart below shows.

This explains the attempt to increase prices.

Regional HDPE variable margins

Asian ethylene margins were slightly better, but were still comparatively poor - again up until the week ending 22 February.

In a genuinely strong market, the higher cost producers do well. Many of the naphtha-based cracker operators in southeast and northeast Asia fall into the higher cost category.

Margin weakness has occurred despite very tight supply in December and January, and so far in February, as a result of turnarounds and outages.

But HSBC, in a report released on 20 February, warned that shut downs were coming to an end with substantial amounts of new capacity about to start-up.

"The peak period for these outages was the first 3-4 weeks of January when PetroRabigh, Saudi Polymers and Borouge 2 were all down at the same time,” said HSBC.

“Supply this year is being added in Asia (China, Singapore), the Middle East and the US. China is adding four new crackers over a 15 month period from Q4'12 to Q4'13, with effective capacity growth of 1.8m tonnes/year, or 12% of the existing capacity base,” the report added.

It was certainly possible that Chinese demand would grow at 10% this year, given the reacceleration of the Chinese economy and a compound average growth rate of 9.8% in 2006-2012, wrote the bank.

“[But] It is unlikely that growth will be strong enough to absorb the 1.8m tonnes/year that China is adding and also absorb the 2.2m tonnes/year of capacity being added in Saudi Arabia, Singapore and the US,” said HSBC.

“In order to absorb all of the domestic supply, as well as the new Middle East and US supply, Chinese demand growth would need to average over 15% in 2013, a situation we believe is highly unlikely.”

The bank's base case for growth is 8%, but it added that growth lower than this was possible.

How much lower?

A lot will, of course, depend on the external environment which looks a little shaky to say the least.

The extent to which China further tightens liquidity and carries out economic reforms, including those planned for the financial sector, will also be key determinants of growth in 2013.

Everybody should have known that economic rebalancing had to happen sooner or later, as was the case with tackling the recent surge in credit growth.

Sooner once again seems to be the answer.

The government may not act to boost economic growth during the second half of the year, said Nomura in a report released last week.  Local governments, for instance, have lowered their growth targets for 2013 by an average of 0.5 percentage points from 2012, the bank added.

China's leaders might also crack down on companies that pollute the environment, in response to public anger over major environmental problems, said Nomura.

This could mean factory closures as a result of failure to meet tougher environmental standards, plus higher costs for those manufacturers who do comply.

And so, how much lower will growth be if major rebalancing has finally begun?

China's GDP growth could average only 3% per annum in 2010-2020 as a result of the government efficiently managing the transition from investment to consumption-driven growth, said Michael Pettis, a finance professor at Peking University.

If rebalancing is badly managed, 3% growth could stretch out over two decades, he warned.

Read Paul Hodges’ Chemicals and the Economy blog
Bookmark John Richardson and Malini Hariharan’s Asian Chemical Connections blog

By: John Richardson
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