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    China Drip Stimulus Softens Trade War Impact

    Natalia Gurushina ,Economist, Emerging Markets Fixed Income
    July 01, 2019

    China’s activity surveys missed expectations in June, but details suggest that the drip stimulus softened the trade war's impact. The only certainty on Eskom’s reform in South Africa is that it will blow the budget.

    China’s official and Caixin activity surveys missed expectations
    in June, with the latter slipping back into contraction territory. Details of the release (new orders, new export orders, employment, etc.) show that manufacturing weakness was widespread, but three things stood out to us. First, the dichotomy between manufacturing (weak) and consumption (much more robust) is very much in place (see chart below). The latter is more responsive to domestic stimulus and, as such, can provide a cushion for China’s growth in the coming quarters. Second, the manufacturing Purchasing Managers' Index (PMI) decline in Q2 was smaller than in Q4 2018, indicating that the “drip” stimulus indeed softened the external blow (tariffs, trade tensions). It would, therefore, be reasonable for the policy spigot to remain open going forward. Finally, the small companies PMI showed a small recovery in June, most likely aided by targeted support policies (which is another argument for the continuation of this approach).

    The just-released comments by South Africa’s Deputy Minister of Finance suggest that the government is okay with missing fiscal targets as long as it helps to sort out the state-owned utility company, Eskom, and boost growth. Eskom’s operational issues—and especially recurring power cuts—are a major headwind to the economy. The problem is that the fiscal gap is already expected to widen to 4.6% of gross domestic product (GDP) in 2019, and additional Eskom injections can easily push it beyond 5% of GDP. Absent actual reform (Eskom’s restructuring, unbundling), South Africa may end up with a major dent to its fiscal metric (and further rating downgrade) but with no major improvement in growth.

    The Institute for Supply Management survey in the U.S. confirmed that the economy continues to outperform most of its peers. The manufacturing index surprised to the upside at 51.7, the employment index accelerated to 54.5, while the prices index showed no inflation pressures. A sharp decline in the new orders survey (to 50.0) argues in favor of an “insurance” policy rate cut by the Federal Reserve. However, the overall survey may be too robust to justify a more aggressive 50 bps move.

    Chart at a Glance

    Source: Bloomberg LP


    PMI – Purchasing Managers’ Index: economic indicators derived from monthly surveys of private sector companies; ISM – Institute for Supply Management PMI: ISM releases an index based on more than 400 purchasing and supply managers surveys; both in the manufacturing and non-manufacturing industries; CPI – Consumer Price Index: an index of the variation in prices paid by typical consumers for retail goods and other items; PPI – Producer Price Index: a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time; PCE inflation – Personal Consumption Expenditures Price Index: one measure of U.S. inflation, tracking the change in prices of goods and services purchased by consumers throughout the economy; MSCI – Morgan Stanley Capital International: an American provider of equity, fixed income, hedge fund stock market indexes, and equity portfolio analysis tools; VIX – CBOE Volatility Index: an index created by the Chicago Board Options Exchange (CBOE), which shows the market's expectation of 30-day volatility. It is constructed using the implied volatilities on S&P 500 index options.; GBI-EM – JP Morgan’s Government Bond Index – Emerging Markets: comprehensive emerging market debt benchmarks that track local currency bonds issued by Emerging market governments.; EMBI – JP Morgan’s Emerging Market Bond Index: JP Morgan's index of dollar-denominated sovereign bonds issued by a selection of emerging market countries; EMBIG - JP Morgan’s Emerging Market Bond Index Global: tracks total returns for traded external debt instruments in emerging markets.

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