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China Economy Faces Downside Risks from Brexit Jitters

Posted on August 11th, 2016 by in Chemical R&D


China has had it’s 2016 growth forecast increased by the International Monetary Fund to 6.6% (from 6.5%) as a result of the country’s efforts to stabilize their economy amidst international uncertainty. Though domestic consumption of finished goods is relatively stable, private investment has been weak, leaving state-sponsored company investment and foreign exports of finished goods as the primary driver of growth.  Like other countries with a chemicals and petrochemicals trade surplus, this exposes China to impact of weakening demand due to uncertainty triggers such as Brexit.

By Nurluqman Suratman

China’s economy has started to show some signs of stability but this is being threatened by heightened and possibly prolonged financial market uncertainties triggered by UK’s vote to leave the EU, also termed as British exit (Brexit).

The International Monetary Fund (IMF) – the global financial stability watchdog – has adjusted up its 2016 growth forecast for the world’s second-biggest economy to 6.6% from 6.5%, taking into account the country’s recent measures to boost its flagging growth.

“Benchmark lending rates [in China] were cut five times in 2015, fiscal policy turned expansionary in the second half of the year, infrastructure spending picked up, and credit growth accelerated,” the IMF said in its World Economic Outlook (WEO) update released on 19 July.

China posted a 6.7% GDP growth in the second quarter, unchanged from the first quarter and in line with the government’s full-year target of about 7.0%.

On a quarter-on-quarter basis, the country’s GDP expanded by 1.8% in the April-June period.

While retail sales suggested that private consumption was broadly stable in the second quarter of this year, investment among state-sponsored companies soared in the same period, which partially compensated for “poor dynamics” in investment from private firms, according to Barcelona-based research firm Focus Economics.

Meanwhile, monthly consumer price inflation in the country have stayed at around 2.0% in January to June 2016, recovering from a six-year low of 1.4% in 2015, according to official data.

Wholesale prices, on the other hand, remained in a deflationary mode, falling by 2.6% in June, but markedly lower than the full-year average decline of 5.2% in 2015.

But China’s reliance on exports for growth makes it vulnerable to external shocks like Brexit.

Slumping exports amid the global economic downturn caused the Chinese economy to weaken steadily, and is now on its sixth year of slowdown. It posted its lowest GDP growth in a quarter century in 2015 at 6.9%.

The country is a major importer of petrochemicals in Asia, but end-products are mostly exported.

Focus Economics forecasts China’s exports to contract 3.1% this year, with imports seen shrinking 5.3%, with the country’s trade surplus projected at a record $614bn.

But it expects quarterly exports this year to steadily improve from $461bn recorded in the first three months of 2016.

In June, exports declined 4.8% year on year – the steepest recorded in four months.

“June’s data reflect weak global demand, which translates into lower overseas sales from China, while the continued drop in imports is the result of subdued Chinese demand and still low commodity prices,” Focus Economics said.

The country may not feel a direct impact of Brexit due to minimal trade and financial exposure to the UK, but will be hit nonetheless should growth in the eurozone consequently weaken, according to the IMF.

The UK, which has been part of the EU for 43 years, will have to invoke Article 50 of the Lisbon Treaty to trigger the exit proceedings from the union – which may take two years to complete – following the 23 June referendum which saw the “Leave” vote winning by 52% to 48%.

UK’s Prime Minister Theresa May had said that she will not trigger Article 50 until the end of this year.

Focus Economics warned of “second-round effect” of Brexit, such as weaker demand from Europe and a consequent turbulence in the financial markets.

The main risks to China’s economic outlook are worsening external environment and continued slowdown in private investment, it said.

The surprising result of the UK referendum on its EU membership had roiled the global equities, commodities and currency markets. It sent the Japanese stock market benchmark Nikkei 225 crashing nearly 8%; the British pound plunging to a 31-year low; and global crude futures shedding more than $3/bbl at one point in knee-jerk reaction to the “Brexit” vote win on 24 June.

“The external demand environment may become more challenging amid the Brexit shake-up and rising geopolitical tensions worldwide,” said China-based investment bank China International Capital Corp.

“Therefore, it is imperative for macro policies to help lower financial cost and investment risks premium for the private sector, and lower the entry of barriers for private investment in growing industries.”

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All opinions shared in this post are the author’s own.

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