In our column last week we discussed the extraordinary performance of financial markets during the past few weeks, and how a determining factor of this performance was the stimulus package introduced by the Chinese authorities in late September. We discussed how Hong Kong’s Hang Seng index had gained 30.3% in a month, making up almost the totality of the 33.4% increase it had recorded from January; and how in mainland China the Shanghai stock index had managed to reverse its previous decline: a 20.6% increase in the last month had brought its yearly performance into positive territory, with a 12.5% gain year-to-date up to that point.
In fact, in September the Chinese authorities implemented a series of stimulative measures. On the monetary front, the People’s Bank of China (PBOC) introduced several monetary easing measures to inject liquidity into the financial system, support the flagging property market, and encourage lending to businesses. These included cutting the seven-day reverse repo rate by 20 basis points, from 1.7% to 1.5%, and reducing the required reserve ratio (RRR) for banks by 50 basis points. The RRR cut would lower the weighted average RRR for financial institutions to about 6.6%, while banks that previously implemented a 5% RRR would not be involved in the cut. This RRR cut was expected to inject approximately 1 trillion yuan worth of long-term liquidity into the financial market.
On the fiscal side, Chinese authorities introduced a series of fiscal-easing measures aimed at bolstering the country’s slowing economy. Key elements of this package included a significant increase in the debt ceiling, to address the growing local government debts. The government aims to replace hidden local government debts with more transparent liabilities, easing fiscal pressure and freeing up resources for economic development. Additionally, the issuance of 2.3 trillion yuan in special-purpose bonds was announced to support infrastructure projects and stabilize the property market by promoting affordable housing.
In the financial sector, the authorities plan to issue special treasury bonds to recapitalize major state-owned banks, enhancing their capacity to support the real economy. These fiscal moves are complemented by targeted support for vulnerable groups, including increased financial aid for students and one-time subsidies for low-income households to stimulate consumption. These measures are part of a broader strategy to ensure that China meets its 2024 economic growth targets (5% GDP growth) despite challenges in fiscal revenues and rising debt risks.
In spite of this long list of measures, last week Chinese stocks suffered their worst fall in 27 years. On Wednesday the Shanghai stock exchange lost 6.6%, while the Shenzhen composite index tumbled by 8.2%. According to press reports, this fall in equities on Wednesday was caused by the disappointing outcome of the National Development and Reform Commission on Tuesday. On that day, the Commission held a press conference in which officials were expected to reveal the details of the stimulus measures announced in September. Instead, the NDRC officials mostly reiterated September’s announcements and commented on the general economic situation, thus disappointing investors.
However, we believe this is likely to be a temporary hiccup. The Chinese economy is ailing, and deflation is biting, driven by an incipient decrease in population. If China does not want to repeat the experience of Japan, where the economy was mired in deflation for almost 30 years, it will need to provide all the needed fiscal stimulus. That is the reason China’s finance minister held a press conference on Saturday to reassure market participants that China is ready to do more spending and borrowing to support banks and the ailing economy. Additionally, we expect another 25 to 50 bps cut in the RRR by the end of the year, depending on market and economic conditions. We expect this “bad news for the economy, good news for the market” situation to prove supportive for equity markets into the year’s end.
