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Risks to China outlook intensify, says AB


Global asset manager AllianceBernstein (AB) says it remains optimistic about China’s long-term prospects, but warns that short-term risks in the policy arena and property market have intensified and “now turn on a knife-edge”.

In the latest edition of AB Fixed Income Insights, Hayden Briscoe, AB’s Director – Asia Pacific Fixed Income, says policy risk has always been a key concern in China as the country seeks to rebalance its economy from an investment-driven model to one in which consumption plays a greater role.

This concern has increased, most recently as a result of the Budget announced at last month’s National People’s Congress.

AB’s analysis showed that nearly half of the planned fiscal shortfall consisted of tax cuts, reductions in business imposts (to boost competitiveness) and provision for redundancy payments expected as a result of cuts to overcapacity in heavy industries.

“In other words, a high proportion of the Budget was dedicated to pushing through the government’s supply-side economic reforms, with the balance aimed at stimulating local investment demand, mainly through support to the infrastructure and housing sectors,” says Briscoe.

“The policy risk posed by the Budget, in our view, is that it creates the potential for a vicious and ultimately self-defeating cycle, in which more stimulation for housing and infrastructure leads to a compensatory response in the form of more aggressive implementation of supply-side reform.”

Supply-side reform is particularly risky in the current environment, where global economic growth is slow and China’s own growth continues to face downside risks.

“China’s exports are deteriorating sharply in the absence of a recovery in external demand, and consumption—which has grown as part of the overall economy – may begin to fade as export income falls further and supply-side reforms cause redundancies and uncertainty about job security.”

According to Briscoe, the policy risks are compounded by resurgence in cyclical risk, particularly in the housing market.

“So far this year, average sale prices for residential properties in Beijing, Shanghai and Shenzhen have risen by 31%, 26% and 74% respectively. Even by Chinese standards, these are exuberant increases.”

The price rises were being driven by excessive liquidity rather than fundamental demand, said Briscoe, with the liquidity being provided in the form of down-payment loans from real-estate agents, peer-to-peer lenders, wealth management products and developers.

While the loan volumes to date appeared to pose no risk to the financial system, the situation was risky for the housing market which, says Briscoe, “is now on a knife-edge of its own following action by the Chinese government to suspend down payment lending and investigate the practice.

“The likely broader impact of this is hard to assess at the moment, as it depends on how the government handles the issue. The worst case, in our view, could be a crackdown on the liquidity available for property purchase, which could trigger an equity-like collapse in the property market, with prices potentially falling 20per cent to 30 per cent.”

AB’s own base case is more benign, however. “We think it likelier that the government will try to cool the property market in specific cities by administrative measures (such as stepped-up implementation of house purchase restrictions) while maintaining sufficient liquidity in the whole system.

“Such an approach, in our view, would lead to a rationalisation of property purchases without price disruption,” says Briscoe.

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