China’s growth outlook remains weak through 2020 owing to headwinds from ongoing trade war, says DBS Group Research

China’s growth outlook for the remainder of the year and into 2020 is expected to weaken further due to headwinds including drag from the ongoing trade war with the US and tighter financial regulations. GDP growth will moderate to 5.8 percent next year, slower than the 6.1 percent forecast for 2019.

Intensified policy support is a necessity to buttress the economy. Fiscal policy will likely continue to focus on infrastructure spending and tax cuts, whilst further monetary policy easing through a combination of the reserve requirement ratio and interest rate reductions is warranted in the face of benign core inflation and falling producer prices.

The issue facing China is not about whether the authority could hold the real GDP growth rate at 6 percent next year. Most foreign invested enterprises cannot neither afford wholesale relocation of their plants out of china nor replacing Chinese suppliers easily. It is true that FDI going into Vietnam either from China/Hong Kong has been accelerating.

But these are mostly lower end manufacturing which had been planning to diversify well before the US-China trade war due to structural reasons: (1) rising labor costs, (2) an aging population, (3) rising social insurance commitments, and (4) increasing stringent compliance requirement on environmental protection etc.

Relocation decisions facing high tech manufacturers are even more complicated because key considerations include accessibility to vendors, size of the labor market to warrant adequate supply for future capacity expansion, logistics support alongside the simplicity of the regulatory environment and availability of tax incentives, the report added.

It is thus a challenge for hi-tech enterprises to make concrete decisions for relocations. In August, the Chinese yuan breached the sensitive level of 7 to the dollar for the first time in a decade. USD/CNY has since been trading in a range of 7.0-7.15. A thaw in frosty trade relations between China and the US would help put a floor on the exchange rate.

The risks of runaway devaluation and resultant capital flight are much lower now than before. China’s macro risks are mostly long term in nature tending to evolve slowly. There are no shortages of analysis claiming the devastating impact of them under certain assumptions. Yet, there are no crisis in China hitherto.

That however leaves no room for complacency because “unforeseen” crisis always stems from the “unknown unknown”. Politics has already taken the front seat position from economics to lead and drive market forces in recent years, DBS further noted in the report.

Confluence of political and economic factors often develops multiple leads without strong conclusions. For example, politics in Washington/Beijing dictates the outcome of the trade-deal. The interactions are hard to predict precisely and timely.

"We can take some comfort from the known risks which will most likely be under control in 2020. The unknown portion will have to come from the geo-political spectrum," DBS Group Research commented.