- The Chinese consumer is at the heart of public support measures but rebuilding confidence will take time. More support measures are likely by year-end to stimulate employment (e.g. corporate rate cuts, notably for SMEs). Cash handouts or VAT rate cuts are not yet the preferred option but they remain likely.
- The housing market should stabilize at low levels. Further regulatory easing measures are expected to allow second-home buyers to become first-home buyers in more Tier-1 cities. Together with further rate cuts and the reduction in minimum down payment ratios for first- and second-home buyers, this should help reduce the housing glut and improve confidence. On the infrastructure side, annual quotas are expected to be fully utilized by end-September and additional spending should be announced to avoid a fiscal cliff in Q4 (0.5% of GDP from 2022 unused quotas).
- China will continue to export deflation as overcapacities in the manufacturing sector remain. This has pushed Chinese companies into an export-price deflationary cycle and cut -1pp on average from y/y inflation in the US and Eurozone since June.
- Despite recent easing measures, the monetary policy stance is still too restrictive. Recent cuts in rates on existing loans and deposit rates could free up around +0.3pp of growth through additional consumer spending, but the negative credit impulse is costing -0.8pp in terms of annual GDP growth. Hence, we expect two more broad-based rate cuts (incl. FX deposit RRR) before year-end.
- While activity and capital markets have probably bottomed out, we expect sluggish growth ahead on the back of long-lasting structural adjustments. We cut our GDP growth forecast to +5.3% in 2023. Major economies reduced exposure since the pandemic (on average -0.1pp for -1pp on import growth) against more than -0.5pp for Chile, Indonesia, Thailand and Malaysia. We expect the USDCNY around 7.2 until year-end, 10Y sovereign yields at 2.7% this year and 3% next year and around +5% in equities until year-end, followed by mild performance in 2024.
ECB Governing Council meeting – one more hike or a hawkish pause?
Figure 1: Eurozone leading economic indicators (Z-scores) and GDP
A sequential analysis of inflation data, as opposed to year-over-year comparisons, reveals a somewhat faster downward trajectory. Despite an unwelcome re-acceleration in the energy component in August, the latest 3m/3m annualized and seasonally adjusted inflation rate stood at 3.0% (core: 3.9%) compared to the official rate of 5.3% y/y (core: 5.3%, Figure 2). Services inflation has also retreated from its July peak, bringing relief to policymakers. Ongoing disinflation coincides with a significant shift in the ECB's communications strategy. Whereas in June the focus was still on the risks of persistent and high inflation, the tone has since pivoted toward the risks of an economic contraction. In her speech at the Jackson Hole Economic Symposium, ECB president Christine Lagarde emphasized the current economic uncertainty. She also highlighted the challenge for central bankers to address with supply-side shocks such as the Covid-19 pandemic, the war in Ukraine and climate change. Nevertheless, she reiterated the necessity of maintaining "interest rates at sufficiently restrictive levels" to achieve the 2% medium-term inflation target, without however giving any hint as to where this level is.
Energy outlook – no looming crisis but higher prices for longer
However, the European energy landscape remains fraught with uncertainties. While the savings achieved by corporates should be sustainable, most of the household savings were due to weather effects, which could pose a risk going forward. A harsher winter could still strain the continent's energy reserves. If a severe winter is accompanied by poor performances of renewable energy sources (solar and wind), demand could outstrip supply, leading to depleted storage levels next spring and potential tensions on energy prices for European households and corporates. Indeed, natural gas prices, which have enjoyed relative stability over most of 2023, are susceptible to volatility. We forecast natural gas prices to average 45 EUR/MWh in Q4 2023 (vs. close to 35 EUR/MWh currently).
Another source of uncertainty for European gas is the potential impact of the Chinese recovery. In 2022, as the country was under a strict zero-Covid policy, demand for energy and for LNG from China remained subdued. In this context, the softer-than-expected rebound of Chinese growth is a relief for gas prices. However, in the longer run, Europe will face heightened competition with China. With the country’s push to transition from coal to cleaner energy sources, LNG is positioned as a preferred alternative. As a result, Europe will find itself not just competing on prices but also on supply availability with China. This intensified competition could potentially strain Europe's energy security, especially during periods of supply tensions, underscoring the urgency to diversify energy sources and eventually reduce dependency on LNG imports as well.
OPEC+’s strong grip means oil will remain expensive. Recent developments in the global oil market have signaled a tightening of supply, with the two major players Saudi Arabia and Russia extending their voluntary output cuts. Saudi Arabia announced on Tuesday that it has prolonged its cut of 1mn barrels per day (bpd) until the end of 2023, a move that underlines the country’s determination to increase prices. Russia also decided to extend its oil export cuts by 300,000bpd until the year's end. These decisions made against the backdrop of volatile markets pushed Brent prices above the 90 USD/bbl threshold for the first time since November 2022. We expect Brent prices to average at 84 USD/bbl in Q4 2023 because of the soft macroeconomic backdrop, and we forecast an average price of 85 USD/bbl in 2024 as supply should remain tight next year.
Back to school for corporates– slowing demand is biting quicker than tightening financing conditions in both the US and the EU
Sources: Eikon/Refinitv, Allianz Research
In focus – China – Slow landing
The authorities moved relatively fast to tackle the housing market slump through further regulatory easing measures to allow second-home buyers to become first-tier home-buyers and reduce the housing glut. While construction activity will be supported by the acceleration in infrastructure spending – local-government bond issuance has jumped on the back of directives in early August telling local governments to fully utilize annual quotas for special bonds by the end of September – prospects in the residential sector remain weak. Good news comes from the fact that more Tier-1/2 cities can further ease minimum down-payment requirements beyond the official reduction (for the first home to 20%, vs. 20% to 35% previously on average, and the second home to 30%, vs. 30% to 70% previously, which will allow a reduction in the housing glut. We expect additional infrastructure investment to be announced in September-October to avoid a fiscal cliff as local governments are expected to have spent all special bond proceeds. Around 0.5% of GDP remains from 2022 unused quotas.
The monetary stance is still far from restrictive, with a net negative effect of -0.5pp on growth. Back in June we argued that further rate cuts would be likely in August. The PBoC cut its one-year medium-term lending facility by 15bps, the most since the start of the pandemic, which should support overall liquidity. The one-year loan prime rate (LPR) was lowered by only 10bps, which should support credit. Indeed, the credit impulse is still costing -0.8pp in terms of annual GDP growth as it has been negative since May 2023 (Figure 10). All tools have been used: At the end of August, the PBoC reduced the FX RRR rate from 6% to 4% in an attempt to support the currency. Furthermore, state banks will be able to reduce rates on existing loans as well as deposits, which should free-up around +0.3pp of growth through consumer spending.
Economic woes pressure Chinese capital markets. As a result of the disappointing economic data, low inflation and persistent vulnerabilities for real estate developers, Chinese sovereign bonds have witnessed some of their lowest yields in the last 20 years, with the 10Y currently trading below 2.7%. Although we do not see yields falling below 2.5% this year, downside risks remain. We anticipate yields rebounding to 3% in 2024 as inflation nears 2%.
This relatively low-yield environment is likewise contributing to the downward pressure on the Chinese yuan (CNY), especially as major economies such as the US swiftly hiked interest rates in the last 18 months. We expect the CNY to avoid what we call a “confidence crisis” threshold (above 7.32). Indeed, a lower CNY can help support the reduction in Chinese overcapacities in the manufacturing sector, but a too strong one could increase G7 fears of China embarking on a sort-of currency war. Hence, we believe the authorities will want to keep a CNY “low enough” to avoid a deeper real estate crisis, notably in the context of housing market issues, but “high enough” to prevent the intensification of the US-China rivalry and the increase in protectionist measures. Moreover, rate cuts in the FX RRR rate from 4% to 2% after the -2pps cut at the end of August remain on the table in order to increase FX liquidity onshore, as well as a further easing of regulatory measures to access capital markets, in particular the equity market after the series of measures announced in August (including the cut in the stamp duty on securities transactions). Our expectation of further bond issuances in Q4 in order to avoid a fiscal cliff will also allow the CNY to remain around 7.2/USD by year-end.
For the third consecutive year, Chinese equity markets are lagging other major emerging markets. But they are starting to welcome the multiple support packages – in particular those aimed at improving access and transparency – after the mid-August lows and after recording net foreign portfolio outflows of USD12.7bn in the last four weeks of August, according to the IIF. We expect a positive performance for the MSCI China benchmark (around +5% from now until year-end) as markets also reassess with a more measured analysis of the latest data – indeed both on-shore and off-shore benchmarks have rebounded, showing some signs of a change in sentiment, which in any case will need to be substantiated with the measures’ effectiveness. However, the medium-term outlook remains subdued due to declining structural growth and global political instability.
Rather than slowing the global economy, China is exporting deflation. Consumer and producer prices have been on a deflationary trend since the beginning of 2023. China’s producer price index fell by -4.4% y/y in July while inflation turned negative for the first time since the beginning of 2021. We expect inflation in China to average +0.4% in 2023 and +1.7% in 2024. While these developments can be a cause for domestic concern, it may bring some relief to advanced economies. For China, we find that in y/y terms, a -1pp decrease in PPI drives a -0.9pp decrease in export prices two months later. A -1pp decrease in export prices decelerates inflation in the US and Eurozone by -0.2pp in the same month. Hence, China will continue to be a negative contributor to US and Eurozone inflation. Since June, it has subtracted around -1pp on average from y/y inflation against a peak of +3pps in mid-2022 (Figure 11).
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Allianz SE
Allianz Trade
Allianz SE
Allianz Trade
Allianz SE
Allianz Trade
Allianz Trade
Allianz Trade