Behind the mask
China’s trade shock gathers steam and risks contagion Ambrose Evanspritchard
Capital outflows from China have begun to accelerate and the first concrete trade data from Asia have exposed a drastic disruption of supply chains, raising the risk of a broader global financial shock unless the coronavirus is brought under control within days.
Analysts are downgrading growth forecasts sharply as the lockdown of Chinese cities engulfs most of the core economy, extending as far as the industrial hubs around Shanghai. Almost 400m people are now under some form of coercive quarantine.
“We’re expecting a serious contraction in the first quarter,” said Freya Beamish from Pantheon Macroeconomics. The group’s base case is that true GDP – as opposed to the “smoothed” official figures – will fall to minus 1pc. Even this assumes that the 2019-ncov virus is sufficiently contained to allow key manufacturing plants to reopen next week.
Pantheon said the damage could be as bad as minus 2.5pc if the paralysis drags on into March. A Chinese growth shock of this magnitude would push much of the world economy towards the recessionary danger zone. Relative US strength is a double-edged sword since it also lifts the dollar and tightens financial conditions in offshore funding markets.
Standard & Poor’s says China accounts for a third of global growth and is effectively the arbiter of the international cycle through four key channels: commodities, capital goods, integrated supply chains and tourism.
There is an even bigger worry that the epidemic could set off a wave of defaults among smaller businesses and overstretched Chinese construction companies, many of them with large bond liabilities in US dollars and on maturities of less than 12 months.
Capital Economics estimates that capital outflows doubled to €30bn (£25bn) in January despite draconian controls, mostly concentrated over the last 10 days of the month. The People’s Bank of China is walking a currency tightrope since rate cuts can trigger an exodus of capital, if handled badly. Capital Economics said the central bank appeared to be intervening in the exchange markets surreptitiously through proxies such as state banks. This has stopped the dollar breaking definitively through 7.0 yuan but it may take more aggressive action to hold the rate at this level.
January trade data from Taiwan offers a glimpse of the chaos already sweeping the intertwined east-asian economy. Its imports fell 17.7pc in January and the specific data from China was withheld – “likely to raise the suspicion that it was too awful to publish”, said ADM’S Marc Ostwald.
It is only a matter of time before havoc in China starts to show up in US profit warnings. Refinitiv says 30pc of semiconductor earnings within the S&P 500 come from China, 14.3pc of technology equipment, 13.9pc of consumer services, 11pc of household products and 5.6pc of cars.
The exposure of the German car industry is enormous in relative terms. Roughly a quarter of its sales come from China, amounting to 5.2m vehicles or €600m each working day, according to Germany’s Centre for Automotive Research.
But there are also tight interlinkages in supplies. The manufacturing lobby VDMA said production lines will start having to close within Germany soon.
The mounting shock is potentially serious enough to kill off the eurozone’s tentative green shoots and tip the currency bloc back into stagnation, or worse.
Fresh data yesterday showed that industrial output fell 3.5pc in December in Germany and 2.8pc in France from the month earlier, catching markets badly by surprise. Most funds were betting that Europe’s manufacturing downturn touched bottom two or three months ago.
The disturbing feature is that the European Central Bank’s emergency rate cut and renewed quantitative easing in September have gained so little traction. Both France and Italy saw GDP contractions in the last quarter. There must now be a serious risk that China’s coronavirus crisis – if prolonged – will push Germany, Italy, and perhaps France, into a technical recession, and in so doing expose both the ECB’S credible limits and the
‘Data from China was withheld – likely to raise the suspicion that it was too awful to publish’
eurozone’s inability to launch meaningful fiscal stimulus under its spending laws.
Markets have not yet looked so many moves ahead on the global financial chess board but they might do so within two or three weeks. Everything depends on the spread rate and the doubling rate, 2.68 per case and 6.4 days respectively, according to a Lancet study last week. If these figures improve markedly (and can be believed), the storm should blow over. If they do not materially change, the global recessionary dynamic may become unstoppable within weeks.