Greece may be dominating the headlines this week, but it is much further east where the biggest threat to global economic stability could lie. Shockingly weak January trade data from China has revived the prospect of a hard landing for the BRIC powerhouse which could make a 'Grexit' from the eurozone look like a localised hiccup.
China's economic indicators have been wobbling for some time, with GDP growth for 2014 undershooting expectations at 7.4 per cent, and the leadership has already been guiding expectations for 2015 lower still. But the headline GDP reading is not relied upon by many including, it is rumoured, premier Li Keqiang, as the purest indicator of the health of the Chinese economy. Among other data points, the latest trade figures suggested an economy which is slowing rapidly. January exports fell by 3.3 per cent compared with a year earlier and imports slumped by almost 20 per cent, resulting in a record monthly trade surplus of $60bn. Meanwhile, the deflationary wave that is spreading around the world is also lapping at China's shores with data this week showing consumer price inflation of 0.8 per cent in January, down from 1.5 per cent in December and the lowest CPI reading since 2009. Producer price inflation, which measures prices at the factory gate, is already well into negative territory.
January and February are often cited as being unreliable indicators for the Chinese economy due to timing of the Chinese lunar new year. But this year's week long holiday falls in February, while last year it occurred in January, meaning that the latest figures were up against weak comparatives already. China has been running a surplus regularly in recent months as imports of industrial metals and other commodities have receded in the face of slowing growth, but consensus estimates for January's surplus came in at $48.9bn, undershooting the reality by almost 25 per cent.
Premier Li Keqiang is believed to have little faith in GDP figures but prefers to monitor alternative indicators including rail freight volumes, electricity consumption and credit growth. A composite index of these indicators put together by Thomson Reuters and Fathom Consulting, the China Momentum Indicator, makes for grim reading - it suggets the economy may only be growing at 3.9 per cent. Other metrics which indicate Chinese weakness, and have ramifications for suppliers to China, include coal imports which dropped 40 per cent in January to 16.8m tonnes while crude oil imports fell by 7.9 per cent in volume - adding to the downward pressure on the oil price.
China's long-stated strategy of transitioning from an export-led economy to a more balanced economy where domestic consumption contributes more was never likely to be smooth, and the latest figures could prove to be just another bump in the road towards this transition.
But the challenges are growing. Capital outflows are on the rise as investors prepare for tightening in US monetary policy, with the first interest rate rise by the Federal Reserve expected this year. China suffered its biggest capital outflows on record in the fourth quarter of 2014, when it recorded a $91bn deficit. This is affecting liquidity in the domestic economy and adding to pressure on China's banking system and, by association, its property market. Property prices have already been in decline and a renewed credit crunch could exacerbate the problem. Higher US interest rates could also have a knock-on effect in terms of those Chinese companies who need to refinance or repay dollar denominated debts over the coming years. Chinese companies have sold an estimated $433bn-worth of corporate bonds in the past five years.
The Chinese authorities have already begun to tweak policy in an effort to cushion the descent. China's central bank cut interest rate by 0.4 per cent to 5.6 per cent in November and the first cut in two years lit a fire under Chinese equity markets. Earlier this month this was followed by the easing of reserve ratios on Chinese banks, a move which should free them up to lend more and is estimated to have the potential to inject $100bn into the economy. There remains significant scope for further easing, but China's leadership has stated its reluctance to repeat the huge credit splurge of 2008-09 which helped the country navigate the global financial crisis.
Alternatively, there is one major policy lever that China could use which could have significant ramifications globally – its currency. With most of the world's major economies, the US aside, seemingly in a race to the bottom in terms of allowing or encouraging their currencies to weaken in a bid to fire up economic growth, China has been hamstrung somewhat by the Yuan's loose peg to the soaraway dollar which means it has strengthened markedly against competitor currencies such as the Yen. Should China feel the need to devalue the Yuan, the repercussions would be felt worldwide as it would effectively export deflation around the world at a time when the eurozone and UK are already facing negative inflation rates.
