China goes its own way

China goes its own way

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Unlike Western economies and markets, China seems to navigate this storm better.

S&P Global’s monthly Purchasing Managers (PMI) surveys provide instant insight into global business confidence. The June report revealed a similar situation in Europe and the United States: confidence remains in an expansion phase in manufacturing and services, but it has slowed sharply compared to May and remained below forecasts. conservative economists. Should we then expect an imminent recession and how would it affect the markets?

In the United States, other business surveys paint a similar picture. Thus, some regional Fed reports are at their weakest since the spring 2020 recession, while the Institute of Supply Management’s new orders index has plunged into recessionary territory. On the consumer side, the situation is hardly more encouraging – indeed, the University of Michigan poll hit a new all-time low in June, while the Conference Board’s 12-month inflation forecast hit 8 %, never seen. Business leaders and households face the same bitter cocktail of supply disruptions, runaway inflation, rising interest rates and tighter financial conditions.

However, there is a clear divergence between the consensus of macroeconomists and that of US equity analysts. After a decline of 1.6% on an annual basis in the first quarter, the Atlanta Fed model predicts a further decline in US GDP of 2.1% in the second, which is the classic definition of a recession. And with economic momentum continuing to slow, a strong recovery in the second half seems unlikely. On the other hand, stock analysts continue to revise their earnings forecasts for 2022 upwards and now expect earnings growth of +20.2% over the next 12 months. The two scenarios seem incompatible to us.

Consumers are likely to limit their spending until the macroeconomic environment recovers.

Confidence also crumbled in Europe as the macroeconomic picture worsened. Eurozone headline inflation hit 8.6% year-on-year in June, more than double the previous peak in July 2008, and households fear a worsening situation. European politicians are preparing public opinion for possible energy shortages next winter and natural gas prices in Europe have soared 124% this year, more than 70% of which in the last three weeks alone . It’s no surprise, then, that the European Commission’s monthly eurozone consumer survey fell to its lowest level in June, outside of the initial COVID-19 crash in April 2020.

But there is also good news in Europe. As in the United States, the labor market is solid – the unemployment rate in the euro zone fell to 6.6% in May, the lowest rate since the introduction of the euro – which should contribute to mitigating the effect of rising food and energy prices. However, consumers are likely to limit their spending until the macroeconomic environment recovers.

China has been following its own path since the start of the pandemic. Unlike Western democracies, the People’s Republic of China has avoided large-scale stimulus packages that have fueled price pressures in the EU and US – China’s headline inflation is currently 2.1% vs. 8.6% in the United States. Furthermore, the country is virtually alone in sticking to a zero-COVID policy, as evidenced by the latest lockdowns in Shanghai and Beijing. But at the same time, it has embarked on the largest vaccination program in the world – the latest data indeed reveals a rate of administration of 235 doses per 100 inhabitants, compared to 197 and 179 for the EU and the United States. United respectively. Moreover, recent studies conducted in Hong Kong suggest that the effectiveness of Chinese vaccines increases with the third dose.

In sum, in the current situation, it seems unlikely that Western economies will quickly recover from the current slowdown, as the risks of recession should continue to increase. This means consensus estimates of corporate earnings are likely to come under pressure – rising production costs, wages and interest rates will not be kind to profit margins. And with persistent inflation expected to keep upward pressure on sovereign yields, valuations are unlikely to rise anytime soon, leaving developed market equities trapped in a downtrend for now. As for the Chinese stock markets, they have outperformed in recent weeks and the macroeconomic picture suggests that this could continue.


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