Goldman on China stimmies

Lot’s more deterioration for Chinese developers yesterday but nothing game-changing so let’s stick with the analysis. Goldman has been too bullish throughout the adjustment and still is, in my view. There has never been an RRR loosening cycle without prime rate cuts as well. So I agree that CNY is at risk and commodity prices with it. Goldman with the note:

The latest Politburo meeting and RRR cut confirmed that policymakers have focused on stabilizing growth by shifting to an easing mode. This is consistent with our expectations as our 4.8% real GDP forecast for next year has already embedded moderately easier domestic macro policy in 2022 vs. 2021. Given the latest policy signals, we expect another RRR cut in Q1 next year. Although the 1-year LPR rate may drop 5bp on the back of the July and December RRR cuts, we still do not expect policy rates (OMO and MLF) to change. The recent dovish signals have reduced left-tail risk to next year’s GDP growth, in our view, but property market developments remain the key to watch in the coming months.

  1. Policy news after the 6th Plenum in early November have been dovish (Exhibit 1). Most importantly, the December Politburo meeting put emphasis on supporting the property market and stabilizing growth amidst the significant slowdown in housing activity and considerably below-trend growth year-to-date (<3% annualized rate vs. 5-6% potential growth). For example, the word “stability” (稳) appeared 9 times in this year’s Politburo meeting readout vs. 3 times last year. The word “housing” (房) appeared 5 times this year vs. only 1 time last year. “Anti-monopoly” (反垄断) and “preventing disorderly expansion of capital” (防止资本无序扩张), which made appearance in last year’s December Politburo meeting, are no longer included this year. While the broader directions of “housing is for living in, not for speculation” and improving regulatory frameworks are unlikely to change, with the PBOC announcing RRR cut and State Council meeting stating accelerating local government special bond issuance, domestic macro policy has clearly shifted to an easing mode.
  2. Such developments are largely in line with our expectations. As we discussed in our 2022 outlook, policies had been very tight this year, and for growth to reach close to 5% next year as we forecast, they need to loosen noticeably. Without policy easing and if the extremely weak housing activities persist through next year, growth would be even lower than our below-consensus forecast. Recent events are reassuring that policy easing is indeed happening. To be clear, we do not expect the type of easing seen in 2015/16 or early 2020. The latest policy signals also suggest policymakers do not want to risk over-stimulating the economy. For example, explaining the RRR cut, PBOC reiterated “no flooding the market with liquidity” and the “prudent” monetary policy stance has not changed.
  3. We expect another RRR cut in Q1. The RRR cut announcement on last Friday (Dec 3) was somewhat surprising to us. As recent as mid-October, PBOC was signaling its preference for using OMO, MLF and structural tools such as relending programs to provide liquidity as opposed to RRR cuts. Even the Q3 Monetary Policy Report released on November 20th included a box explaining why excess reserves were low for technical reasons and should not be over-interpreted. Recent events serve as a reminder that PBOC operates in a broader institutional framework and State Council guidance has primacy. Both the July and the December RRR cut are likely related to policymakers’ concerns over the Evergrande debt crisis and broader property sector contraction. We now expect another RRR cut in Q1, which implies a total of 3 after the July and December cuts. This is on the lower end of the historical precedents: the 2015/16 downturn saw 5 rounds of RRR cuts in total. We think we should see fewer RRR cuts this time around because (1) policymakers appear to be in the “do just enough” mentality in managing the balance between cyclical growth and structural reforms, and (2) robust FX inflows are indirectly feeding domestic market with liquidity, in contrast to for example 2015 when FX flows were draining liquidity. Q1 is the likely timing, in our view, because (1) it precedes the first Fed hike in June that our US economics team expects, (2) it tends to see high liquidity demand seasonally, (3) PPI inflation is likely to have moved down from the current double-digit year-over-year growth by then, and (4) large amounts of developer USD bonds are coming due in January and March which may cause elevated uncertainty and risks in the financial market.
  4. 1-year LPR rate may drop 5bp, but we do not expect policy rate cut. According to the PBOC, the July and December RRR cuts reduce bank costs by RMB 28bn combined. By our calculation, this is enough to reduce 1-year LPR rate by 5bp. At the same time, we do not expect the 5-year LPR rate or policy rates such as OMO and MLF rates to change. The reasons are twofold. First, cutting the 5-year LPR would reduce mortgage rates and send a strong signal on property market easing, which we think policymakers would not want to convey to the market. Second, cutting policy rates would have a broad impact on the economy whereas policymakers still emphasize “precision” and “prudent” in their description of macro policy in the December Politburo meeting.
  5. Reduced left-tail risk to our growth forecast with property market key to watch. Taken together, China policy has clearly shifted to an easing mode while ex-China seems to be on a tightening path. All else equal, such a divergence could weaken the CNY on the grounds of narrowing interest rate differentials. But given how much CNY has appreciated both against the USD and on a trade-weighted basis (around 10% since mid-2020), policymakers may welcome a slower pace of CNY appreciation (see “Chinese corporates’ ‘unexplained holdings of USD’ and the outperformance of Renminbi”, Asia in Focus, November 28, 2021). With the December Politburo meeting, which was chaired by President Xi himself, sending dovish signals, we view left-tail risk to our 4.8% real GDP forecast as notably reduced. That said, there are still two-sided risks to our baseline expectations. Forexample, materially more easing measures such as policy rate cuts, which we do not expect, would generate upside risk. On the other hand, risk would skew to the downside if we do not see the property market stabilizing and improving sequentially in the coming months.
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