Executive summary

Because of the long Chinese New Year holiday, the statistics bureau only announced price, financial and PMI data in February.  Producer prices grew more slowly. PPI rose 9.1% y/y, down another 1.2 pps from December. The ex-factory price index of industrial goods rose 8.85% y/y, while CPI growth also slowed. CPI rose 0.9% y/y in January, down 0.6 pps from December. In particular, food prices fell -3.8% y/y, down 2.6 pps from December, dragging CPI down 0.72 pps. That is the leading factor lowering CPI. The falling price levels offer ample room for further money expansion.

At the end of January, M2 rose 9.8% y/y, up 0.8 pps from the end of December, and up 0.4 pps from January 2020. M2 is not strongly affected by the Spring Festival effect. The significant trending upward reflects expansionary monetary policy. M1 fell -1.9% y/y. The adjusted growth rate after taking out the effect of the New Year’s holiday was around 2%. M0 rose 18.5% y/y, a major increase.  

The societal financing scale increased by 6.17 trillion yuan in January, much higher than in January 2020, and market expectations. The societal financing scale increased 10.5% y/y, up 0.2 pps from December. The structural composition of societal financing is also improving. PMI fell, but was still in the improvement zone in January. In particular, PMI was 51%, down 1.2 pps from December. This indicates that the overall economic situation is good, and in an expansion zone, but the trend is slowing.

The Ministry of Finance disclosed on February 14^th that to that date, some 1.788 trillion yuan ($278 billion) of this year's newly-increased debt limit of local government bonds had been allocated in advance. Of the amount already allocated, 1.46 trillion yuan is for the local government special bond quota. We expect this expansionary fiscal policy to bolster local government financing needs and investment, to ensure growth stability. The early distribution will also have a larger spillover effect for the rest of the year. The government debt ratio in China is still much lower than it in the United States, so financial risk should be containable.

Producer prices rose more slowly

Because of the long Chinese New Year holiday, in January (as usual), the statistics bureau only announced price, PMI index and financial data. So the analysis does not cover much. In January, PMI fell, but was still in an improvement zone. The detailed classification indicates that demand is still weak, but also suggests that market expectations are improving.

Faster money growth and societal financing scale indicate that the real economy’s financing demand has recovered. We expect fiscal policy to be intensive as well, with infrastructure projects accelerating their pace of construction. The lowering overall price level also lends a possibility for further monetary loosening. With the Spring Festival effect, part of the non-food and service categories’ price supports further CPI appreciation. But pork prices are falling significantly. The two opposite changes keep the CPI stable.

From the published data, in January, PPI rose 9.1% y/y, further down 1.2 pps from December. In particular, production material price rose 11.8% y/y, down 1.6 pps from December. Living material prices rose 0.8% y/y, down 0.2 pps.

The production material price fluctuation is the main factor driving the ex-factory price index of industrial goods. The latter rose around 8.85% y/y. Its slowdown is the main factor pushing down PPI growth.

For specific industries, main industries that saw their prices growing more slowly are coal, oil and gas, black metal mining and refinery.  Those industries rose 51.3%, 38.2%, 30.1%, and 14.7% y/y, down 15.5, 7.4, 6.3, and 6.7 pps respectively.

GRAPH 1

Change in CPI and Ex-Factory Price Index of Industrial Products (y/y, %)

Source: Chinese State Statistical Bureau

Purchasing prices of industrial producers rose 12.1% y/y, and fell -0.4% m/m. The latter’s growth rate is down more from December than the y/y growth rate, leading the ex-factory price index to fall.  

The main price compositions of gas, chemical, and black metal related materials rose 30%, 17.9%, and 9.8% y/y, and fell -0.9%, -1.1%, and -0.7% m/m respectively, driving PPI had its m/m growth rate negative.

The slowdown of the ex-factory price index and PPI show that central government policies to beat down prices have been effective. The slowdown of PPI m/m growth rate led to coal mining, and black metal refinery to decrease -3.5% and -1.9% m/m, contributing to the overall industrial good price to fall. But affected by global oil and gas price increase, domestic oil and gas mining price rose 2.6%, up 9.5 pps from December. The globally dependent nature of oil and gas leads to their large fluctuations from the global factor.

CPI growth also slows

CPI rose 0.9% y/y in January, down 0.6 pps from December. In particular, food prices fell -3.8% y/y, down 2.6 pps from December, dragging down CPI around 0.72 pps. That is the leading factor lowering CPI.

Pork prices fell -41.6% y/y, because of the high base number of last year, down 4.9 pps from December, which instead is the main factor leading the food price decline. Vegetable price fell -4.1% y/y, down 14.7 pps from December. For m/m growth rates, food price rose 1.4% m/m, up 2 pps from December. The Spring Festival effect has pushed up fruit and seafood price to increase 7.2% and 4.1% m/m respectively, which are the main factor keeping up the food price.

Non-food prices rose 2% y/y, down only 0.1 pps from December. The high demand for oil and gas from the transportation demand increase due to the New Year’s holiday effect is the main contributing factor to non-food price increase. Specifically, gasoline and diesel oil prices rose 20.7% and 22.7% y/y respectively, which then contribute to industrial good price to rise 2.5% y/y.

The service price index rose 1.7% y/y, up 0.2 pps from December. This was mostly due to airfare and household related service prices rising 20.8% and 6.2% y/y.

For m/m growth rates, prices for oil, diesel oil, and gas rose 2.2%, 2.4%, and 1.5% m/m. Air tickets, transportation rental fees and long-distance coach prices rose 12.4%, 9.8%, and 5.2% m/m. House cleaning, babysitting and haircut prices rose between 2.6% and 9.1% m/m. After we take out the food and energy factors as compositions of CPI, the other prices rose 1.2% y/y overall, the same rate as in December, indicating the overall CPI growth is mild.

Signs of expansionary monetary policy

M2 was up 9.8% y/y at the end of January, up 0.8 pps from the end of December, and up 0.4 pps from January 2020. M2 is not strongly affected by the Spring Festival effect. The significant trending upward reflects expansionary monetary policy.

M1 fell -1.9% y/y. The adjusted growth rate after taking out the Spring Festival effect was around 2%. M0 rose 18.5% y/y, a large increase. What the changes of M0 and M1 reflect are the Spring Festival effect. It is customary for firms to distribute compensation and welfare in a lump-sum way to households. This leads to the transition from enterprise saving to individual savings. As seen from the data, household savings increased 5.41 trillion yuan, and non-financial enterprises savings reduced 1.4 trillion yuan. But M1 growth rate is lower than expectation probably because house purchase intention is still low in January. It is hard for household saving to transit to enterprise savings.

GRAPH 2

Change in M0, M1, and M2 (y/y, %)

Source: Chinese State Statistical Bureau

The societal financing scale increased by 6.17 trillion yuan in January, much higher than in January 2020, and market expectations. The societal financing scale increased 10.5% y/y, up 0.2 pps from December.

The structural composition of societal financing is also improving. In particular, RMB loans under the customary societal financing standard increased 4.2 trillion yuan, 380.6 billion yuan more than last January. Government bond net financing rose 579.9 billion yuan, 188.2 billion more than last January. The aggregate of trusted loan, entrusted loan, and non-discounted bank note increased 447.9 billion yuan, 32.8 billion yuan more than last January.

Loans, corporate debt, and bank outside-balance-sheet business had major increases, except regulatory delay for government bond financing and private company to go public.

Our analysis above shows that the societal financing scale increased significantly; its composition structure also improved. Both of these show that, with all the efforts from back-to-normal monetary policy, less regulation for commercial banks, and infrastructure acceleration, monetary policy has more and more impacts on the real economy.

PMI fell, but remained in an improvement zone

Overall PMI was 51% in January, down 1.2 pps from December. This indicates that the general economic situation is good, and in an expansionary zone, but the trend is falling.

In particular, manufacturing PMI was 50.1%, down 0.2 pps from December. This is also consistent with the overall economy, which is still in an expansionary zone, but with slowing growth.

GRAPH 3

PMI Index (y/y, %)

Source: CEIC data

Non-manufacturing PMI was 51.1%, down 1.6 pps from December. This is also consistent with the overall economic PMI.

For specific categories, new manufacturing orders decreased -0.4% m/m, showing weak demand. But manufacturing activity expectations, new construction orders and related activity rose 3.2, 3.3, and 0.6 m/m from December, and reached their PMI of 57.5%, 53.3%, and 57.9%, reflecting improving market expectations.

Local bond issue acceleration will keep economy stable

The Ministry of Finance disclosed on February 14^th that to date, some 1.788 trillion yuan ($278 billion) of this year's newly increased debt limit of local government bonds had been allocated in advance. Of the amount already allocated, 1.46 trillion yuan is for local government’s special bond quota. We expect this expansionary fiscal policy to help local government’s financing needs and investment, to ensure growth stability. The early distribution will also have a larger spillover effect for the rest of the year. Government debt in China is still much lower than it in the United States, so financial risk should be containable.

Around the same time, on February 22nd, net onshore bond issuance by state-owned enterprises (SOEs) owned by the Henan provincial government turned positive in Q4 2021. Funding conditions stabilized after the default of Yongcheng Coal in November 2020 dampened investor appetite for securities issued by Henan SOEs in H1 2021, then reflected a return of investor confidence.

GRAPH 4

Local Government Special Bond (Billion yuan)

Source: National Bureau of Statistics

Although where local government special bonds will be put into use is not  specifically clear, we can draw a big picture from where the bond was allocated last year, and we expect it to still be largely consistent with those fractions, as there is no specific different shock.

In 2021, half of the bond was in the area of transportation infrastructure. From the rough mention for the plan in 2022, the largest category is still transportation infrastructure. Other categories are energy, agriculture --particularly forestry and water -- environmental protection, social security and production chain infrastructure.

One concern of using these debt-driven infrastructure growth is the whole debt level and potential financial risks. The Chinese government seems to pay particular attention to this issue. All the reports have repeatedly mentioned that the financial risks need to be carefully watched. The graph below also shows that China’s debt ratios are still below those of the United States, leaving further room to add more debt. Compared to other instruments, issuing bonds can contain an inflation and asset bubble.

GRAPH 5

Debt to GDP (%)

Source: National Bureau of Statistics

In our view this special bond has two different advantages over previous local government debt. If the central government simply approves any local government’s request to issue more debt, then there will be strong debt- and capital-misallocation. This is because the poorer regions will have a greater need to issue debt. However, one reason they are poor is due to their low productivity. If money is allocated to such regions, then the expected return should be lower. There will be a vicious cycle under this scenario. The financial market itself might have limited power to discipline because of its state-owned nature. Instead, currently, the central government carefully monitors the approval of these bonds, so that their efficient level should be higher.

Second, the previous local government is mainly financed by local banks. Given  crony relations in small local areas, the financing is less efficient compared to the current arrangement. The national financial market that follows greater market discipline will determine bond quantity and pricing.